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The mortgage industry is a risk-based industry. The risk for a bank to loan money on an asset is offset by two things: the higher the interest rate and/or the more difficult to be approved for the loan.
Every loan can be viewed as a 'four-legged' chair. The analogy is based on the ability to obtain a mortgage or equity line on a property. There may be flaws in one or more of these four 'legs' or facets of the loan. The more solid 'legs', the less risk exists for a Lender and, thereby the better the rate.
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The 'four legs' are as follows:
1) Credit
Everyone is given a credit score based on their past ability to pay bills and utilize credit.
2) Reserves
How much money do you have in Reserves? These monies can be in any form- Checking, Savings, 401K, Retirement Accounts, Stocks, Bonds, etc.
3) Income
This is the Bottom-Line Income provided on a W-2 or on a Tax Return. Stated Income Loans are an option for customers who: are self-employed, derive income from rental properties, etc.
4) The actual Deal or Loan-to-Value (LTV)
The less debt as a percentage, the less risk a Lender assumes and, therefore the better the loan rates.
The ability to obtain a loan is based on these four components. If there are any weak 'legs' on the chair, then the borrower will not use a Full-Documentation loan, but rather must compensate by using Stated or No Documentation Programs. Consequently, the interest rates are higher and therefore, the monthly payments will be higher.
The best-case scenario is to have all four of these requirements in good standing. However, it is more likely that one of these criteria has shortcomings. There are many lenders who will not focus on a single problem area.
If two of these criteria are deficient, then it is more difficult to get a loan at a standard rate, however there are certain boutique lenders who will specialize in combinations of: minimal down-payment/ stated income or stated assets/ stated income and it is possible to get good mortgage rates.
Lenders are hesitant to loan money to individuals who fall short on three of these requirements, however if the borrower is willing to allow terms to be dictated by the lender (three year pre-payment penalties, 2/28 ARM products) then it is still possible to buy a property.
When all four Mortgage Loan components are insufficient, then it is difficult for a bank to assume the risk for a loan- but there are Lenders that specialize in overcoming, for a price, the risk of lending to a "chair with problems with all four legs".
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