Thoughts on Credit and Getting a Mortgage

Credit plays a huge role in getting a mortgage because it is a variable that helps the lender determine the likelihood that the loan will be repaid on a timely basis.  Credit bureaus evaluate people's credit worthiness using a FICO score.  The higher the score the better the borrower's credit.

The mortgage rate charged to a borrower depends on their credit score.   There is an inverse relationship between credit score and interest rate changed.  The higher the score the lower the rate and the lower the score, the higher the rate. 

Two separate buyers with the same income, purchasing the same price home may both be approved by the lender, but they may be charged different interest rates based on their credit scores.

You could save thousands of dollars over the life of a loan by improving your credit score by just a few points.  A $350,000 mortgage at 3.5% has a principal and interest payment of $1,571.66.  By improving your credit score to qualify for a 3% rate, it would save $96.04 a month. 

Over the life of the mortgage, that would save $34,575 in interest.  Improving your credit score to shave 0.25% off the rate would make it worthwhile.

Credit utilization is the percentage of total credit used compared to the total credit available.  If you have a $2,500 balance on a credit card with $10,000 available credit, your utilization rate is 25%.  Ideally, it should be 10% or below.  This ratio accounts for 30% of a person's FICO score. 

Credit utilization is calculated using the balance on the monthly statement so paying it off in full every month could still result in a high CU score.  Some credit counselors suggest paying down the balance before the end of month statement comes out.  A trusted mortgage professional can make specific recommendations like how to improve your credit utilization. 

Your credit score can be adversely affected if your credit limits are lowered.  You may have the same monthly outstanding balance you have had for years but it now becomes a larger percentage of your available credit and your score goes down.  In the example used earlier, if the available credit was lowered to $5,000 and your balance is $2,500, the credit utilization is now 50%.

Payment history is the largest contributor and counts for 35% of an individual's FICO score.  It is an indication of your likelihood of paying on time and as agreed for your debt, especially mortgages, credit cards, student and car loans, among others.

A big shock to some borrowers is to find out that while they may have never actually incurred a late fee because of a grace period, their score could be dinged because it was not paid on time of the actual due date.

Foreclosures, deeds in lieu of foreclosure and bankruptcies will affect a borrowers payment history as long as they appear on the credit report.

Americans are entitled to a free annual credit report by law from the major credit companies: Experian, TransUnion and Equifax.  AnnualCreditReport.com is the source for these federally authorized reports.   During the Covid-19 pandemic, they are offering free weekly reports.

Even if you are not buying a home or getting a mortgage currently, it is a good routine to check your credit report periodically to discover signs of identity theft early.

First Love, Second Wife or Third REALTOR

There is a story of a real estate agent's prayer: "Dear Lord, if I can't be someone's first love, or second wife, at least, please let me be their third REALTOR®."  In a normal market with a balanced supply of sellers and buyers, this describes the preference that it might be better to be the third listing agent to help the seller after they became more realistic about their list price.

In today's market, it might have more to do with buyers because of the increased competition, their chance of having an accepted offer is greatly reduced and it is only after they have lost several that they become more aggressive in the negotiations.

Competition for homes being sold has greatly increased over the previous two years, according to a recent REALTORS® Confidence Index Survey from NAR.   In April of 2021, there were nearly five offers for every home sold which increased from two offers in 2019 and 2020.

Utah reported the highest number of offers per home sold with seven while Arizona, Georgia, New Hampshire, and Washington had six.  California, Colorado, Tennessee, and Texas each had five offers per home sold.

To make their offers appear more attractive, more buyers are making cash offers to eliminate financing contingencies and reduce the chance of rejection.  Cash offers represented 25% of offers in April and 21% in the first quarter of 2021 compared to 18% in 2020.

Buyers who are not able to make cash offers are increasing their down payment.  Nearly half of homebuyers are putting 20% or more down during the first quarter of 2021.  Even first-time buyers are using an 80% mortgage to make their offers more attractive to sellers.

The median days on the market for listings was 17, down from 21 days a year ago.  31% of residential sales were made to first-time homebuyers which is down from 32% in March 2021 and down from 36% one year ago.

While nearly ¾ of homes closed on time, 5% were terminated and 22% were delayed but eventually went into settlement.  Appraisal and financing issues were the major contributors to the delayed transactions.  The two major factors for the terminated transactions were also appraisals and inspections issues.

Today's environment requires a strong, sensitive agent who understands your goals as well as the intricacies of the market to be able to devise a plan to make it happen.  Your agent and their recommendations for the other professionals involved are the boots on the ground necessary whether you are a buyer or a seller.

Simple Rates of Return

Looking for a simple way to determine if a rental property will give you the rate of return you want?  This modified annual property operating data may be just what you've been looking for.

There are many different rates of return that investor's consider to determine whether a property will generate the yield that they expect.  Sometimes the simplest of calculations can tell you whether you want it or not and if you get the other things like tax advantages and appreciation, it just makes it that much better.

The first yield we will look at is commonly called the Cash-on-Cash rate of return.  It is calculated by dividing the initial investment, usually down payment and closing costs, into the Cash Flow Before Tax.

To arrive at Net Operating Income, it is simply taking the gross scheduled income, less vacancy allowance and all operating expenses.  From that is deducted the annual debt service which is the principal and interest payment times twelve.  The remaining amount is referred to as Cash Flow Before Tax.

In this example , the initial investment of the down payment and closing costs, $66,000 was divided into the Cash Flow Before Taxes of $5,468 to get an 8.28% Cash-on-Cash rate of return.

The second yield to be considered is called Equity Build-up.  Each payment made on an amortizing mortgage pays a portion toward the principal balance to retire the loan.  It is calculated by dividing the initial investment into the principal contribution for the year.

Continuing with the example, $66,000 is divided into the principal reduction for year one of $4,606 to get a 6.98% Equity Build-up rate of return.

This approach is easy to understand because you are not considering depreciation, anticipated appreciation, holding period, recapture of depreciation or long-term capital gains. Simply rent the property, pay the bills and if there is money left over, it pays a return on the initial investment.

The same goes for the Equity Build-up.  When you make the payment on the mortgage, the loan is reduced and while you don't have access to the money like cash flow, it is definitely your equity and tangible.

To determine whether an ROI on a rental is good, compare it to what your initial investment is earning currently.  Ten-year treasuries are earning less than 2%.  Certificates of deposit are earning less than 1%.

For more information, download the Rental Income Properties  guide and schedule an appointment with your real estate professional.

Is a Home Inventory Necessary?

Most homeowners have insurance on their home that additionally, gives them coverage on their personal property.  That is the first level of peace of mind to know that it is available to you if there is an unfortunate need for it from a burglary, fire, or some other insured circumstance.

Personal property is handled slightly different than real property.  The claims adjustor could start by asking you for a list of the things lost.  You are allowed to reconstruct it but there is a distinct possibility that you'll forget things, sometimes for months or years after the claim was settled.

An interesting exercise would be for you to visualize two rooms, possibly, the kitchen and main living area.  Without being in the room, create a list of all the personal items in plain sight and those in the closets and cabinets.  When you're through with the list, go into each room to check to see what kind of things were not on your list and what the value of those items amounted to.  It could be substantial.

Remember, you are entitled to claim them regardless of how long it has been since you used them or if you do not intend on replacing them again.

When filing a claim, the more "proof" you have to substantiate it, the better off you are.  Receipts are great but chances are, you may only have them for the big-ticket items.  Photographs or video of the different rooms are great records that the items were in your home.

An itemized list of each room with a description of the content, cost and date of purchase, supported by pictures would be ideal.  This type of documentation will make filing and settling a claim much easier.   The more documentation you have, the more likely you are to have a favorable settlement.

The more expensive the item, the better it would be for you to have receipts, serial numbers and photographs.  A simple count of some items like clothing will suffice like four pairs of jeans, 24 dress shirts, etc.  More valuable items of clothing like a cashmere jacket or a silk dress should be listed individually. 

Depending on the frequency that you purchase new items for the home or possessions, you'll need to consider updating the list and photographs.  Moving creates opportunities to get rid of things that haven't been used for years and to acquire things for the new home.  It is always a good idea to complete a home inventory after you've moved and settled into your new space.

If you would like to have more tips and a form to itemize your possessions, download the Home Inventory.  This will even allow you to include pictures and store it in digital format for safe keeping.