Though no one expects to be turned down for a home loan, the Mortgage Bankers Association (MBA) said 2.32 million Americans seeking a mortgage were rejected in 2010. The MBA estimated that the number of rejections would be higher if it included applicants who dropped out of the application process in anticipation of a rejection.
Since July, a provision of the Dodd-Frank financial reform law forces lenders to provide consumers with an "adverse action letter" when they are turned down for a mortgage or do not qualify for the lowest available interest rate. In addition to the explanatory letter, consumers must be given a free credit score.
"While the letter gives consumers a list of reasons why they have been turned down for a loan, it will be somewhat generic," said Doug Benner, a senior loan officer with Embrace Home Loans in Rockville. "A good lender will work with you to nail down the specifics of why you can't qualify for a loan."
Consumers who are denied a mortgage, whether for a refinance or a home purchase, can work with the lender to develop a plan for qualifying in the future or can shop around with other lenders. If the applicant is close to meeting loan-qualification guidelines, it can make sense to pursue the mortgage with another lender.
"Our minimum credit score is 640, but some lenders are willing to qualify someone with a credit score at 625, depending on their other qualifications," said Brent Mendelson, a senior loan officer with Monarch Mortgage in Rockville. "However, if your credit score is 520, you probably can't qualify for a mortgage anywhere right now. But don't give up; a good lender should give you a plan that will allow you to qualify in six months or a year as long as you follow through."
Glenn Harshman, vice president of 1st Portfolio Lending in Vienna, said a lender can help applicants work through their issues and offer specific steps to improve their ability to refinance or buy a home.
"If the issue is their credit score, we can use a credit analyzer to look at different scenarios that could improve their score by as much as 50 points in a short time," Mr. Harshman said. "For instance, if someone cannot pay off all their debts before applying for a loan, we can tell them to pay off a certain bill and estimate what that will do to their credit score. This is especially important for someone who is only a few points away from qualifying for a loan."
Consumers who have a collection on their credit report should not necessarily pay it immediately, Mr. Benner said, because this can sometimes result in an initially reduced credit score.
"A lender can help you decide which moves are the best to make to raise your credit score in time to qualify for a loan," Mr. Benner said. "For instance, if you are maxed out on one credit card, if you can pay it down to 50 percent or less of the credit limit, you can improve your score."
Mr. Mendelson recently helped a woman qualify for a loan who had a solid job history, good income and enough down-payment money but whose credit score was a little too low. He gave her suggestions for ways to improve her credit. Two months later, she qualified for a mortgage and is now a homeowner.
"What kills a loan is usually not just one thing but several things," Mr. Mendelson said. "For example, if someone's credit score is 642, their debt-to-income ratio is 44 percent, they are making a small down payment and have had four jobs in the past two years, they may or may not get a loan.
"But if that same person has a credit score of 800 or a debt-to-income ratio of 20 percent, they are more likely to qualify."
In addition to the credit score, lenders have requirements for the debt-to-income ratio of borrowers that range from 40 percent to 50 percent in some cases for borrowers with excellent credit and a solid source of income.
"A high debt-to-income ratio is caused by one of two things: either the income issue or the debt issue," Mr. Harshman said. "To fix it, you either have to reduce your debt or find a way to increase your income. In the case of someone who is self-employed, it may be a matter of waiting until they file their 2011 taxes because we average the income from two years of tax returns."
Mr. Benner said mortgage applicants who are purchasing a home and cannot qualify because of their debt-to-income ratio may simply be trying to buy a house they cannot afford.
"If the issue is that they have income from a spouse who can't go on the loan because of a bad credit score, then they may be able to add a non-occupant co-signer who can boost the income level," Mr. Benner said.
Borrowers who are refinancing sometimes can bring cash to the settlement to reduce their loan balance, enabling them to reduce the debt-to-income ratio and qualify for a new mortgage.
Unemployment issues also have caused problems for mortgage applicants because lenders review two years of job history for each applicant.
"An employment gap may not be as much of a problem as long as the debt-to-income ratio and credit scores meet the guidelines," Mr. Harshman said. "As long as someone has been back at work for six months and has the probability of continued employment, a period without a job should not be a problem."
Mr. Mendelson said providing a letter of explanation about unemployment and how it was handled financially through unemployment benefits or savings usually is sufficient for both buyers and homeowners refinancing as long as they are otherwise qualified for a loan.
An obstacle for many homeowners who want to refinance is a low appraisal for the home that raises the borrower's loan-to-value ratio above 80 percent. Conventional loans with less than 20 percent equity require private mortgage insurance, which could negate the savings from a lower interest rate.
Homeowners who have the means can pay down the principal balance on their loan to reduce their loan-to-value or can estimate what their payments will be with mortgage insurance. Mr. Benner said many lenders offer lender-paid mortgage insurance, which would require a slightly higher interest rate on the loan. Another option his company offers to borrowers with excellent credit is a first and second mortgage for up to 90 percent of the home value.
"Lenders have different requirements and different loan products, so consumers should never quit after one turndown for a loan," Mr. Benner said. "We work with a lot of people who have been turned away by larger banks that have stricter guidelines.
"Of course, you have to use common sense. If you are six months out of a foreclosure or you are self-employed and don't report any income on your taxes, or your FICO score is in the low 500s, you may have to work out a plan before you can qualify."
Even in extreme cases, though, lenders say "time heals all wounds," and borrowers who strive to correct their financial problems eventually can qualify for a mortgage.