- The Washington Times - Friday, August 1, 2008

We are first-time home buyers and ratified a contract to purchase a home for $420,000 with a 10 percent down payment. We were prequalified for a $378,000 loan. Three weeks after we signed the application, the loan was declined due to “excessive obligations,” “inadequate reserves” and “unacceptable payment shock.” We have lost the home to another buyer and must start from scratch. I was assured by the loan officer that this wouldn’t happen, but it did. How can I prevent this from happening next time?

A. Your situation is a clear reminder of how much mortgage underwriting standards have tightened. I don’t know the details of your mortgage application, so I can’t give you a valid opinion as to whether you were unfairly declined.

I do, however, have enough experience to make an educated guess. Let’s take a look at the reasons for your declination.

“Excessive obligations” means you have a high amount of debt and a high monthly payment obligation. Folks who have two high car payments, several thousand dollars in credit-card debt and large student loans, for example, would be considered to have excessive obligations. Unfortunately, such a scenario is especially common among younger first-time home buyers. They often have good income but have not had this income long enough to save some money.

“Inadequate reserves” means that if the loan were approved and you purchased the house, your cash position would be uncomfortably low to begin making the mortgage payment and other obligations. Underwriters don’t like to see folks walk away from the settlement table with a new mortgage and a new house, but not enough cash to afford dinner at a fast-food restaurant.

“Unacceptable payment shock” means the new mortgage payment is far higher than your previous housing expense, presumably your rent. The underwriter is concerned that the new payment, even if you have good income, may be unaffordable.

These reason, singularly, may not constitute a good reason for a loan declination. Together, however, they paint a picture in my mind that might, indeed, lead me to believe the declination was warranted.

Here’s what the underwriter is thinking. First, the borrowers have a lot of debt and are obligated to making high monthly payments to service this debt. Second, the underwriter sees the borrowers will have little or no “cushion” to make the monthly payments if, for some reason, the income is lost. Third, and most important, the underwriter sees an unacceptable savings history during the borrower’s time when he was paying rent. A far higher mortgage payment will make saving money even more difficult.

Let me now answer your question. To prevent a last-minute loan declination, you should go to a capable loan officer and make a full loan application. The loan officer will submit the application to either of the automated underwriting systems offered by mortgage mega-giants Fannie Mae and Freddie Mac. Before the mortgage meltdown, if an application were accepted, it was all but guaranteed that the loan would be approved as long as the appraisal was acceptable. Now that lenders are tightening their standards, the loan officer, once he has obtained the automated approval, should submit the loan to his underwriter for a final approval.

Since you have applied for a 90 percent loan, it will carry mortgage insurance, which guarantees a percentage of the debt in the event of default. Your loan also may be subject to another review by an underwriter from the mortgage insurance company.

The degree of scrutiny your application receives can vary from broker to broker and lender to lender. I am merely pointing out a possible scenario. Whatever the requirements are should be taken care of ahead of time.

The underwriting landscape indeed is much different today than it was two years ago, but it’s not new. It reminds me of when I first entered the business in the 1980s. Be prepared to be examined under a microscope. Easy mortgage money is gone.

One last thing: Based upon the reasons for your decline, I suggest that you revisit your situation and determine whether the mortgage you applied for is truly affordable. The rules are there for a reason, and the lack of rules and guidelines is largely what got the mortgage industry in the mess it’s in.

Henry Savage is president of PMC Mortgage in Alexandria. Send e-mail to henrysavage@ pmcmortgage.com.

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