Home buying can be both an exciting and simultaneously stressful process. Receiving a pre-approval letter from your mortgage loan officer can often be a huge relief. After all, a pre-approval is an important step toward purchasing the home you have been dreaming about. Yet it is important to understand that your pre-approval is not a golden ticket.
Once you are pre-approved for a mortgage, the next step is generally verification (aka underwriting). In this stage of the mortgage approval process you may be required to supply a number of documents to your lender in order to verify your income, employment history, and other information relevant to your loan. Assuming that you are able to pass successfully through the verification process your loan status should move from “pre-approved” to “approved.”
Yet just because a lender has issued you a pre-approval or even an approval does not mean you are guaranteed financing. There are still a number of ways to mess up your loan before your closing date rolls around. Keep reading for a list of 5 ways to mess up your mortgage approval. Hopefully you will be able to learn from the mistakes of others so that you never have to find yourself in the same unfortunate situation.
1. Apply for or Open New Accounts
Even though your credit was checked as part of the pre-approval process, your lender will likely check your three credit reports and scores again prior to closing. Lenders do this in order to be sure you have not experienced a change in “borrower circumstances.” If credit or financial changes occur between pre-approval and closing (such as a drop in your credit scores), you could lose your loan.
Applying for or especially opening new accounts is one potential way to kill your mortgage before you ever make it to the closing table. Having your credit pulled by other lenders during this time has the potential to impact your credit scores negatively. Opening new accounts has the same credit damaging potential. Furthermore, when you open a new credit obligation while your mortgage loan is in underwriting, especially a large obligation like an auto loan, you could raise your debt-to-income (DTI) ratio as well. An increase in DTI could financially disqualify you from closing on your loan, even if your credit scores are not an issue.
2. Run Up Your Credit Card Balances
Another potential way to mess up your mortgage closing is to run up your credit card balances. As is the case with opening new accounts, when you run up higher balances on your credit cards you have the potential to both raise your DTI and to lower your credit scores simultaneously. You may not realize it, but your credit card balances have a big influence over your credit scores. As the credit card balances on your reports climb, your credit scores will generally begin to fall – sometimes significantly. In fact, the credit card balances on your reports can have a negative impact upon your credit scores even if you keep your accounts paid on time each and every month.
3. Close a Credit Card Account
When you close a current, positive credit card account that action has the potential to drive your credit scores downward as well. Closing a credit card does not cause you to lose credit for the age of the account (that is a myth), but a freshly closed account could potentially increase the revolving utilization ratios on your credit reports. When your revolving utilization ratio (the connection between your credit card limits and balances) increases, your credit scores are often impacted negatively. If your credit scores fall because of a credit card closure, there is a chance you may no longer qualify for the mortgage you had been approved for previously.
4. Pay Off a Collection
You would think that paying off old collection accounts is always a positive move when it comes to your credit scores. However, due to a deficiency in some of the older FICO credit scoring models which are still used by mortgage lenders, paying off an old collection can sometimes be interpreted as new derogatory activity. As a result, there are instances when paying off an old collection account could actually have a negative impact upon your FICO credit scores. Even if that impact is only temporary, those newly lowered credit scores could be enough to cheat you out of your home loan.
Of course you should not assume that paying legitimate old collections is necessarily a bad idea. However, if you were already approved for a mortgage with those old collections present on your credit reports then you might want to consider waiting until after your home closing before paying or settling any old accounts. (Tip: When the timing is right, it is generally best to settle collection accounts in a single, lump sum payment in order to protect yourself from being sued and to potentially save more money as well.)
5. Make Late Payments
Making late payments on any of your credit obligations while your mortgage is in the underwriting process is a huge mistake, a mistake which could easily put the brakes on your home loan. Over 15 years ago while working in the mortgage industry, I had a client who was moving from out of state to purchase a new home. During the busyness of the move he forgot to make a tiny, $15 credit card minimum payment. That late payment caused his credit scores to drop over 50 points per credit bureau on average and disqualified him from his home loan.
Thankfully, this story has a happy ending. We were able to assist the client in calling his credit card issuer to request a “goodwill removal” of the late payment. Because he had never made any previous late payments on the account his credit card issuer agreed to remove the new 30 day late from his reports as a one-time courtesy.
Once the late was removed and his credit scores rebounded the client’s loan officer was able to reschedule his closing date (albeit at a slightly higher rate due to market fluctuations). Yet many people are not so fortunate when it comes to the goodwill removal of a late payment. This credit mistake has caused many people to lose their home loan altogether.
Just because your three credit reports and scores were checked by your lender prior to receiving your initial pre-approval does not guarantee you the money in hand to purchase your home. Yet if you can avoid the five mistakes above you should have little to worry about, at least from a credit perspective.