Why Are More Mortgage Applications Getting Denied for Insufficient Income?

Why Are More Mortgage Applications Getting Denied for Insufficient Income?

More mortgage applications are being denied due to "insufficient income" because the cost of mortgage payments has become much less affordable for homebuyers. This issue has been exacerbated by the fact that nearly a quarter of refinance applications were rejected in 2022, a significant increase from the 14.2% rejection rate in 2021. High home prices and rising interest rates have led to larger monthly mortgage payments, making it increasingly difficult for many consumers to even qualify for a mortgage.

In 2022, a higher percentage of loan applications were denied due to "insufficient income" than in any previous year since records began in 2018, according to a report from the Consumer Financial Protection Bureau. Overall, 9.1% of home purchase applications were denied, a slight increase from 8.3% in 2021, with refinance applications experiencing even higher rejection rates at 24.7%, up sharply from 14.2% the previous year.

This problem of insufficient income disproportionately affects different racial and ethnic groups, with more than 50% of denials for Asian American applicants, 45% for Black and Hispanic applicants, and around 40% for white applicants. The rising cost of monthly mortgage payments, which increased by 46% from December 2021 to December 2022, reaching $2,045, has outpaced the pace of income growth for many households.

This situation has been further complicated by increasing mortgage rates influenced by the Federal Reserve's rate hikes. In summary, the denial of mortgage applications due to insufficient income reflects the challenging landscape of affordability in the housing market, where income growth hasn't kept up with rising housing costs and interest rates.

Is Your Income Meeting the New Mortgage Approval Standards?

Meeting the new mortgage approval standards can be challenging for many people. Several factors are at play, making it more difficult to secure a mortgage. Firstly, higher mortgage rates and soaring home prices are creating a tough situation, especially for first-time homebuyers who lack equity to work with. This "double whammy" of rising rates and home prices is putting pressure on prospective buyers.

Additionally, consumers are taking on more debt due to inflation, which further strains their budgets. Lenders have specific criteria they use to assess applicants. For instance, they typically want housing costs to be no more than 28% of a person's gross income. 

This is part of a guideline known as the 28/36 rule, which considers housing expenses and other debts. Ideally, mortgage, property taxes, and insurance should be less than 28% of monthly income, while total debt, including mortgages, credit cards, and auto loans, shouldn't exceed 36%. To determine how much house one can afford before applying for a mortgage, it's important to focus on the debt-to-income ratio (DTI).

If your total monthly debt, including auto loans, student loans, and mortgages, exceeds 40% of your total income, you may face a higher chance of being denied a mortgage. In such cases, it might be necessary to adjust your housing expectations. Notably, DTI ratios are currently above 40% for Hispanic and white applicants.

Lenders also consider credit scores, and recent data suggests that credit scores may be another challenge for mortgage applicants, as the median credit score for loan refinances is now lower than that for home purchase loans. Overall, people are facing increasing financial pressures from various angles, making it more difficult to meet the requirements for mortgage approval.

What is the Credit Score for Getting New Mortgage Approval?

To get approved for a new mortgage, your credit score matters. Lenders often use the FICO scoring model, which ranges from 300 to 850, and higher scores are better. The specific credit score requirement can vary by lender, but you might need a score of at least 600 or even 660 to qualify for a loan. To secure the best-available interest rate, you'll typically want a credit score of 760 or higher.

It's important to note that even a small difference in your credit score can have a significant impact on your mortgage rate. For instance, the gap between a FICO score of 575 and 675 could result in a 1% difference in your mortgage rate. A higher interest rate means a larger monthly mortgage payment, which could potentially lead to challenges with your income and budget. So, maintaining a good credit score is crucial when applying for a new mortgage.

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What are the Reasons of Your Mortgage Loan Getting Declined?

Getting declined for a mortgage can be disappointing, but it's a chance to learn and grow financially. Instead of dwelling on the rejection, it's an opportunity to understand what areas of your financial life need improvement. The good news is that being denied once doesn't mean you'll face repeated rejections. Lenders are obligated to explain why they denied your loan in a formal rejection letter, providing you with the insights you need to make necessary improvements.

Here are some typical factors that could lead to your home mortgage loan application being declined,

Weak Credit History

A weak or poor credit history can make it challenging to secure a mortgage loan. Lenders use your credit history to assess whether you're a risky borrower. They not only look at your credit score but also consider negative items on your credit report, like foreclosures or bankruptcies. Generally, having a credit score below a certain threshold, like 620, may be considered too low for mortgage approval. To improve your credit, you need to understand why it's weak, and in many cases, it takes time to make improvements.

Lack of Adequate Income/Asset Records

Not having enough proof of your income and assets can lead to a mortgage loan denial. Lenders need to see that your income is sufficient to cover both your current debts and a new mortgage. Keeping accurate financial records, documenting all income, and providing several years of tax returns can help avoid this issue and increase your chances of mortgage approval.

Inadequate Down Payment

If your down payment is too small, it can be a problem when applying for a mortgage. Lenders see the down payment as your investment in the home, so a larger down payment is reassuring to them.

Normally, homebuyers are expected to pay down payments that are around 5-25% of the total home value. However, there are some government-backed mortgage loans that don't require a down payment at all. Saving up for a larger down payment can improve your chances of getting approved for a mortgage.

Property Issues

Property-related issues can also lead to a mortgage application denial. Sometimes, the value of the property you want to buy isn't sufficient to support the mortgage loan amount you're applying for, and that can result in a rejection.

Occasionally, a low property appraisal can be the culprit. While you have the option to request an appraisal reconsideration, it's often challenging to get a higher appraised value for the property. One way to address this is by exploring different lenders to see if you can find one that values the property differently.

Limited Employment Background

Having a stable employment history is important when applying for a mortgage. Many lenders like to see at least two years of steady employment before approving a loan. They want to ensure that you can maintain a job long enough to repay the money they're lending you. It's essential to provide evidence of your employment, such as pay stubs or tax records, to support your application.