There are many ways to prepare to buy a home, but a major one is to ensure your finances are completely sound. A lender is going to request many financial documents, one of which will be your bank statements. While it might seem like an insignificant request compared to your taxes or paystubs, your bank statements are vital to get your loan approved. So, what do mortgage lenders review on bank statements?
The simple explanation is that a mortgage lender needs to ensure you have sufficient funds to cover the down payment, closing costs, and some might even want to see if you have enough reserves to cover the first few mortgage payments. It is paramount these funds belong to you and they have been in your account for a while. Underwriters are thoroughly trained to pinpoint all unacceptable sources of funds, hidden debts and other red flags by analyzing your bank statements. Before you begin the homebuying process, it is best to ensure you don’t have anything questionable on your statements that will raise a red flag.
Here are 3 of the most common red flags:
If you or an automatic payment have withdrawn funds from your account that you did not have, your bank statement will show “NSF” or non-sufficient funds. Having multiple NSF’s on your statements will show a lender that you are not financially responsible, making you a risky borrower. This could lead to your application being declined. The best option is to wait to apply until at least 2 months of recent bank statements are NSF free. If you don’t want to wait, be prepared to explain to your lender why your statement shows NSF, especially if it was not completely your fault. You might have forgotten to transfer funds from your savings to your checking, or maybe there was a problem with your paycheck that was out of your control. Whatever your reason, your lender will need to know.
It is critical that all the money in your account is completely your own. This means that any additional deposits (not your income), borrowed money, a cash advance, or gifted funds can all raise red flags. Again, if you are flagged, your lender will contact you for explanations of where the funds came from. Borrowing funds to help you with a down payment is fine, but you need to disclose it. If you can’t prove the funds are acceptable, they will be disregarded and won’t be used to help you qualify for the loan. If you know you are going to be receiving a large deposit, let the funds “season” for a couple months, otherwise it will not be considered yours. For example, if you plan on depositing all the money you’ve been storing under your mattress, do so months before you plan on applying for a loan rather than right before.
Credit reports will account for all your credit cards, student loans, auto loans, and other debt accounts. However, some creditors don’t report if you have a personal or a business loan. If your account shows you are receiving regular payments that are not your income or if there are any irregular activities, these can cause a red flag. No matter what it may be, having a monthly automatic payment of any amount will alert a lender and can cause issues. It is best to disclose all sources of funds or any unusual activity to your lender upfront.
Applying for a loan is not something to take lightly. Your lender is going to inspect your finances to ensure you have the money you say you do, and that the money is really yours. It is best to analyze your finances from the perspective of a lender a few months before applying for a loan to ensure you reduce the risk of having any red flags. This will also give you time to gather the documentation or explanations you might need in case you think something will catch the lender’s eye. Keep it simple both before and during the application process by not adding or taking out any unnecessary funds, and to help ensure you have a smooth experience.
One of our previous blogs on credit scores, Understanding Your Credit Score, talked about the factors used to calculate FICO scores (the most widely used scoring system). However, the blog did not go into detail on what a credit score is or the difference between credit report and credit score. The two are not only different, but they are used for different purposes. Here are the main differences:
A credit report is a record of your credit history. The report may include loan amounts, current balances, credit companies used, dates accounts were opened, recently opened lines of credit, payment history, third-party collections, and even details of public record, such as bankruptcies. These detailed reports are created by the three National Credit Reporting Bureaus: Experian, Equifax, and TransUnion. Each one of the Bureaus maintains one credit report per person. However, these reports can vary, since creditors do not have to report information to all three Bureaus. Federal law requires that each of the three Bureaus give consumers a free copy of their credit report every 12 months. You can receive a free copy of your credit report by going to www.annualcreditreport.com.
A credit score is an algorithm used to measure your financial risk based on the information on your credit report. FICO scores are the most widely used, but VantageScore, and banks have their own. FICO scores have 5 factors used to calculate credit scores, and it weighs each factor differently. The other credit companies use similar information but may have different weights and/or include other data.
Here are two key differences between credit reports and credit scores to consider:
Credit scores are calculated basedon information found on your credit report at the time it was pulled. If your credit report changes, your credit score changes.
There are several different credit scores from each company – FICO has 53! You only have one credit report per Bureau.
Lenders use credit reports and credit scores to see if you are responsible for your finances, and to make sure that you won’t be overwhelmed if you take on another loan. When taking out a mortgage loan, lenders look at both your credit report and credit scores, and are required to show you the three credit scores that were pulled from each of the three National Credit Reporting Bureaus for the application.