Lender overlays may prevent you from getting the mortgage you thought you were a ‘shoe in’ to receive. Lender overlays are guidelines a lender adds to a loan program’s basic guidelines. They are common, but it doesn’t mean that you’ll never get the loan you need. You just have to know how to get around them.
We help you understand the five most common ways to get around the overlays that you come across on your quest for a mortgage loan.
Shop Around for a Lender
The easiest way around lender overlays is to shop for a different lender. We recommend that you check with at least three lenders in the first place to make sure you are getting the best deal on your loan. When you shop around, you can ask different lenders what types of overlays they have on their loans. You will know right off the bat if you fall within their parameters or if you should look elsewhere.
For example, the FHA allows credit scores as low as 580, but many lenders aren’t okay with that. They often require a 640 credit score or higher. If you know that you have a 600 credit score, though, you may feel like you won’t get an FHA loan. The truth is that you probably can, you just have to shop around to find the lender that uses the FHA’s credit score requirements at face value.
Have Compensating Factors
Sometimes lenders are willing to overlook the fact that you don’t meet their overlay requirements if you have compensating factors. These factors make you a less risky borrower. For example, let’s say a lender requires that 640 credit score for FHA loans, but you have a 600 credit score. If you have a low debt ratio or you have 6 months of reserves on hand, a lender may be willing to grant you an exception with that 600 credit score.
Compensating factors can be many different things, but the most common are the following:
- Low debt ratio (lower than the program’s guidelines)
- High credit score
- 6 months or more of reserves on hand
- Stable employment for more than the last 2 years
- Increasing income for the last few years
- No bankruptcies or foreclosures in your recent past
Lenders look at the big picture when determining if they will give you a loan. Giving them plenty of compensating factors can help you get around those lender overlays.
Make a Large Down Payment
Money talks, especially when you are buying a home. The more money you can put down on a home, the less strict the lender may be with their requirements. For example, if there is a borrower that will put down 3.5% on an FHA loan and a borrower that will put down 10% on the home, the lender will be more flexible with the borrower putting 10% down on the home.
Lenders look at a down payment as the borrower’s investment. You invest in the home. This may make you more likely to make your payments on time. You know you have more at stake and if you don’t make your payments, you could lose your investment. The more of your own money you put into the home, the more flexible a lender is likely to be.
Pay Your Debt Down
The fewer debts you have when you apply for a mortgage, the less likely the lender is to closely inspect your financial situation. In other words, the lower your debt ratio, the more forgiving a lender may be with their overlays.
A low debt ratio ranks almost as high as a high down payment. Lenders want to know that you aren’t overtaxed financially. If you have a high debt ratio and the lender adds a mortgage to your debt load, it can put them at risk for default. If, on the other hand, you have a low debt ratio, you are a lower risk of default. The lender may be more forgiving in other areas, such as credit scores or down payment requirements.
Improve Your Credit Score
Your credit score is one of the first factors a lender sees. If you have a low credit score, you can guarantee the lender will require their overlays. A low credit score usually means financially irresponsibility. That’s not a good first impression or a lender.
Before you apply for a loan, do what you can to improve your credit score so that it is as high as possible. Make sure all of your payments are in on time, keep your credit balance as low as possible, and don’t apply for new credit. It’s a good idea to keep your credit utilization rate at 30% of your total credit line. This way your credit score isn’t highly impacted by the overuse of your credit. This also shows lenders that you are financially responsible.
If you apply for a loan with a high credit score, lenders are more willing to give you some leeway on their other requirements. If, on the other hand, you have a low credit score, you can bet that they will require those overlays and be rather stingy with who they loan money to for a home.
Don’t let lender overlays scare you away from applying for loans. The more you prepared yourself for the loan application, the more likely you are to get around the lender overlays. If you can’t get around them, you always have the option to shop around and find a lender that doesn’t have such overlays.