For those borrowing to purchase their home, the mortgage process is usually the most stressful and opaque part of the transaction. It’s best to start as early as possible and be ready to produce lots of documentation. The following is the general process in Maryland:
1. A buyer submits a loan application to their lender, either directly or through a mortgage broker. See a sample Uniform Residential Loan Application used in Maryland.
2. Within 3 days, the lender sends a “Good Faith Estimate,” or GFE, to the buyer that is a breakdown of estimated closing costs. The final costs are likely to deviate from this estimate. See a sample GFE at hud.gov.
3. Before the buyer is ready to write an offer, a pre-approval with a lender should be acquired. The buyer sends a series of personal financial disclosures to their lender. These vary by situation, but the most commonly requested documents are:
– Several months of statements for each bank account a borrower holds (including any investment accounts)
– Several months of statements for any outstanding loans, lines of credit, or other liabilities. This can also include documentation of rent payments.
– Up to two years of tax returns, released to the lender via an authorization submitted by the buyer using IRS form 4506-T.
– Recent pay stubs and contact information for each borrower’s employer. The number of pay stubs varies by situation.
– Any other disclosures that are material to a borrower’s financial situation. This includes but is not limited to marriage licenses, divorce settlements, child support, liens, bankruptcies, or judgments. If there’s something that affects how much money you have on hand that isn’t shown by simply looking at your salary, be prepared to document it.
– Explanation of any credit inquiries
– Substantiation of any large deposits or cash gifts that aren’t regular income. In some cases, a large cash gift may look similar to a personal loan by a friend or family member, and lenders will require gift letters from those that gave you the cash gift, stating that the gift was not a loan. They may also ask for itemized deposit slips. The exact amount that triggers this requirement varies by situation (for instance, a $1,000 cash gift may be material to a single borrower that makes $35,000/yr but may not be material to a borrower that makes $350,000/yr), so it’s good practice to ask your lender if you suspect you might have a material cash gift or large deposit – so you aren’t surprised by this at the last minute.
– Repeated and updated documentation of any of the above. Keep in mind: to a lender, anything can happen to a borrower’s personal financial situation and credit during the escrow process. Thus, you may be asked more than once for the same type of document so that your lender has the most recent pay stubs, rent receipts, bank statements, or other disclosures that may change over time. Any material changes in these documents -or any element of your personal financial situation- may require the lender to reassess your eligibility for the loan for which you’ve applied.
4. The lender renders a preliminary approval decision, called a pre-approval. A pre-approval takes into account the entirety of the borrower(s)’ financial situation but is contingent upon a satisfactory appraisal of the home being purchased.
5. Provided all goes well with appraisal (and nothing changes in the borrower(s)’ personal financial situation, a lender will issue a loan commitment letter, stating its willingness to fund the mortgage. While this is the ‘final’ approval, it’s important for buyers to understand that commitment letters are always contingent upon there being no material change in your situation -or the property- as initially disclosed to your lender.
6. The financing contingency (a.k.a. loan contingency) is removed by the buyer before the expiration of the financing deadline (also referred to as the loan contingency date) as defined in the contract, by obtaining a copy of their loan commitment or approval. If the buyer/borrower is unable to get this approval before the expiration of the financing deadline, both buyer and seller can cancel the contract (though in the buyer’s case, they have to prove they have declined financing through no fault of their own).
7. An appraisal is ordered by the lender or mortgage broker via a central directory of appraisers (often called an Appraisal Management Company or AMC). Choosing a specific appraiser is not possible, but a mortgage broker can reject an appraiser and ask for a new one. If the appraisal comes in lower than the purchase price, the buyer has until the appraisal contingency date to request a reduction in price from the seller. The seller generally has a set period of time to accept or reject the buyer’s request. If the seller rejects the request or that time lapses, the buyer can walk away from the contract without penalty.
8. Homeowners’ insurance is purchased (or substantiated, if the property being purchased includes homeowners’ insurance as part of association fees or similar arrangements), and proof of homeowners’ insurance is submitted to the lender.
Tip: As this process can be long, arduous, seemingly arbitrary, and is often critical to your home buying transaction, try to prepare these documents (or at least figure out how to prepare them) in advance. Also, do not make any changes to your employment or credit until your transaction is complete (not just until you get a loan commitment letter). This means not switching employers even if it results in a higher income, as counterintuitive as that may sound. It also means not leasing or financing a car, opening a new credit card account, or anything else that can affect your credit report.