Every time a potential home buyer decides they are ready to purchase a new home, they must go through the process of qualifying for a loan. The qualification process can be complex and difficult to understand. To understand these complex terms, let’s discuss what automated approval is and why it’s so important.
The “Automated Approval” process
Automated Approval is the process by which a lender determines that a home buyer is eligible for the home they want to purchase. The automated underwriting system, or AUS, that the lender submits the loan paperwork to uses a specific set of criteria to determine a home buyer’s eligibility.
If the AUS determines a prospective buyer is eligible, they are considered approved, which is the first step in securing a loan. However, if the AUS determines the home buyer is ineligible because they don’t meet the criteria for automated approval, the loan must be manually underwritten.
Manual underwriting is done by an underwriter who carefully looks over all the paperwork and checks to see if the buyer meets the lender’s criteria. The process is arduous and takes time. It’s critical that the information given to the underwriter is complete and accurate.
LP vs. DU mortgage
To support more home buyers’ desire to purchase homes, congress backed two organizations known as Fannie Mae and Freddie Mac. They buy mortgages, combine them, and sell them as mortgage-backed securities. This process frees up the lender’s capital so they can then lend money to more home buyers.
Fannie Mae uses the automated underwriting system called Desktop Underwriter or DU, while Freddie Mac uses the AUS called Loan Prospector or LP. Both of these systems do similar functions. They are the systems that lenders submit a home buyer’s information to for automatic approval.
Applying for LP or DU mortgages
The process for applying for and obtaining an LP or DU mortgage can seem complex and overwhelming, so we’re going to break it down so that it’s easier to understand.
Criteria and guidelines
All loans underwritten through Fannie Mae and Freddie Mac must follow certain criteria and guidelines.
- Debt to Income Ratio (DTI) – DTI takes into consideration a buyer’s current debt and gross income. The sum of their debt is divided by their gross income to create a ratio or percentage. Debts figured into this ratio include credit card debt, other loans, mortgages, etc.
- Required reserves – Loans require a buyer to have a certain amount of money in the bank to cover all of their expenses. This money is referred to as a reserve. The amount required is dependent on the buyer’s credit, DTI and LTV.
- Loan-to-Value (LTV) – LTV is determined by the house’s appraised value and the loan amount being asked for. If the LTV is higher than 80%, the buyer may have to pay for PMI or private mortgage insurance until the LTV is lower than 80%. LTV can be lowered by paying a higher down payment.
- Credit score and profile – A credit report will show the bank whether or not a buyer has any delinquencies or outstanding debts. Additionally, it will show a credit score, which shows a lender how risky lending to the buyer will be.
- Collateral – Collateral is an asset that can be used to secure a loan. In the case of a mortgage, the collateral is usually the house that is being purchased.
- Tax returns – Lenders use tax returns to determine whether your reported income is accurate.
- Proof of income – Proof of income is usually two years of W-2’s unless the buyer is self-employed or owns a business. Some ways of showing income for a self-employed buyer include profit and loss statements, 1099 documents, and direct deposits.
- Bank statements – These provide information about how much money buyers have in their reserves and how long they’ve been saving money for a down payment.
- Credit history – The lender will need to pull the buyers’ credit report to determine whether or not there are any delinquencies and to verify debts.
- Rental history – At least one year of rental history showing on-time payments.
How does a DU or LP mortgage work?
The first step to obtaining an LP or DU mortgage is to begin the application with a loan officer. The loan officer will collect information from the potential home buyer. From there, the information is put into a loan origination system, which then submits the information to one of the underwriting systems.
The AUS will review all of the documents and determine whether or not they meet the guidelines set forth by Fannie Mae or Freddie Mac. If they do meet the guidelines, the loan will be automatically approved. If automatically approved, the loan officer will submit the loan for underwriting and will submit the buyer’s documentation along with the loan.
The mortgage underwriter will then submit the information to the AUS again. Depending on what the AUS says, the mortgage underwriter will issue conditions. Once the buyer meets the conditions required, the loan can begin to close.
Should I get an LP or a DU mortgage?
Unless a buyer has the money to purchase a home outright, they should generally get an LP or DU mortgage. Remember that if a buyer doesn’t qualify for an LP or DU mortgage, they will have to go through the process of manual underwriting. This process is lengthy and documents are scrutinized more heavily. It’s easier to qualify for a mortgage with LP or DU.
From beginning to end, an LP or DU mortgage is about purchasing a home with a buyer having a low risk of defaulting on their loan. The loan officers and the underwriters use specific criteria set forth to minimize that risk. The home buyer submits their documentation, it’s processed through LP or DU, and then, if automatically approved, the buyer is one step closer to buying their home!
Reach out to us for assistance
If you are ready to start the process and qualify for a DU or LP mortgage, reach out to the home buying experts at Hero Home Programs™. They specialize in helping homebuyers save thousands of dollars with local vendors, grants, and rebates. They want to see you in the home of your dream and they work hard to help you fulfill that dream.