Retirees face many important decisions. Oftentimes, the question of where to live takes priority as factors such as moving closer to family, a warmer climate, or a more senior-friendly neighborhood come into play. Owning real estate has many benefits but also comes with responsibilities, and many retirees find that the trade-off affects their homebuying decision.
Yet, oddly enough, the biggest question for many retirees is whether they will qualify for a mortgage and for how much. Before you start down this retirement mortgage journey, here are several important points that can help improve your chances of qualifying.
Credit Score
The first thing you should do is check your credit score because qualifying for a mortgage on a fixed income is different from qualifying when you’re still working. If you haven’t made a major purchase in a while, you might not know what your credit score is, but there are four main ways to find out:
Work with a free credit-scoring website (e.g., Credit Karma)
Work with a nonprofit credit counselor (e.g., National Foundation for Credit Counseling)
Visit the websites for the three main credit bureaus (Equifax, Experian, and Transunion)
Use your credit card provider’s credit-tracking tools
Increasing your credit score helps improve your chances of getting approved for a mortgage. Credit scores range from 300 to 850 and measure a person’s likelihood to repay their debt. The higher the score, the lower the potential for missed payments or default.
A higher credit score is likely to attract more lenders, which can lead to a lower mortgage interest rate. Generally speaking, the minimum credit score you’ll need to qualify for an FHA loan is in the mid-500s, but most loans require a credit score of at least 620.
After obtaining your credit score, it could be a good idea to get pre-approved for a home loan so you have an idea of how much you qualify for.
Income
One of the biggest changes for retirees is the lack of a steady paycheck. With that being said, most retirees have at least one of the following taxable retirement income sources:
Pensions
Social Security income
Annuity income
Investment income (i.e., interest/dividends and rental)
Retirement accounts (e.g., 401(k)s, IRAs)
Lenders view each of these streams differently. For instance, income from Social Security and a pension are seen as regular and consistent payments without an expiration date. They are deemed more favorable since they are pretty much “guaranteed.”
Since annuity income, investment income, and retirement accounts can fluctuate in value, lenders generally view them as limited or temporary. Thus, they do not hold as much “value” as the other two streams.
While having regular income helps, it is not the end-all, be-all. In the end, lenders are more concerned with your ability to repay a loan rather than the amount of income you bring in. This is partially why down payment requirements are in the 10% to 30% range. Each lender will have their own requirements—yet another advantage of working with various lenders, enabling you to get the best terms possible.
Debt-to-Income Ratio
Given that you’re unlikely to have the same income level as while working, your debt-to-income ratio becomes even more important since you are viewed as a “higher risk” candidate for a mortgage loan.
Your debt-to-income ratio (DTI) is a formula that looks at how much of your monthly income goes toward debt. DTI is expressed as a percentage, and most lenders usually require a DTI of 43% or less to even apply for a mortgage.
The good news is you have several ways to improve your DTI ratio before applying for a mortgage:
Picking up a part-time job/consulting
Paying down smaller debt balances (e.g., credit card, car loan, personal loan)
Keep in mind that debt payments include housing expenses, student loan payments, credit cards, auto loans, and even loans you co-signed for an adult child. After adding up these expenses, divide them by your gross monthly income to calculate your DTI.
Your financial planner can help you calculate your ratio, or you can use various online calculators.
Determine Your Total Housing Expenses
Your total housing expenses include the principal and interest on your mortgage, as well as taxes and insurance. This formula is often called PITI, and most mortgage applicants are required to have a PITI that is lower than 28% of their total income. In fact, the lower the number, the better.
Your PITI should include homeowners’ association (HOA) fees, utilities, maintenance costs, and anything else that you’ll pay monthly once you purchase your home.
Conclusion
Obtaining a mortgage in retirement can be stressful, as many variables are involved. It is imperative that you know what you’re getting into, which usually starts with compiling your financial information to determine if a retirement mortgage is right for you.
Likely, the biggest decision revolves around the mortgage payment’s impact on your monthly cash flow. Our Bethesda, MD financial planning firm regularly helps clients to assess such situations. Working with a fee-only, fiduciary financial planning firm can help you make a confident decision based on your financial goals.
Discuss your situation with a fee-only financial advisor.
The commentary on this website reflects the personal opinions, viewpoints and analyses of the Divergent Planning, LLC employees providing such comments, and should not be regarded as a description of advisory services provided by Divergent Planning, LLC or performance returns of any Divergent Planning, LLC Investments client. The views reflected in the commentary are subject to change at any time without notice. Nothing on this website constitutes investment advice, performance data or any recommendation that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. Divergent Planning, LLC manages its clients’ accounts using a variety of investment techniques and strategies, which are not necessarily discussed in the commentary. Investments in securities involve the risk of loss. Past performance is no guarantee of future results.
Divergent Planning, LLC provides links for your convenience to websites produced by other providers or industry related material. Accessing websites through links directs you away from our website. Divergent Planning, LLC is not responsible for errors or omissions in the material on third party websites, and does not necessarily approve of or endorse the information provided. Users who gain access to third party websites may be subject to the copyright and other restrictions on use imposed by those providers and assume responsibility and risk from use of those websites.
Divergent Planning, LLC is a Registered Investment Adviser. Advisory services are only offered to clients or prospective clients where Divergent Planning, LLC and its representatives are properly licensed or exempt from licensure. This website is solely for informational purposes. Past performance is no guarantee of future returns. Investing involves risk and possible loss of principal capital. No advice may be rendered by Divergent Planning, LLC unless a client service agreement is in place.
General Notice to Users: While we appreciate your comments and feedback, please be aware that any form of testimony from current or past clients about their experience with our firm on our website or social media platforms is strictly forbidden under current securities laws.