What to Do If Your Mortgage Loan Application Is Denied

worried couple

Worried couple | iStock.com

Whether it’s getting turned down for a date or a loan, no one likes to be rejected. But when you’re shopping for a new home, denial can be especially heartbreaking. Lenders turn down between 10% and 14% of mortgage applications, according to data from Zillow. For someone who’s already mentally moved in to the home of their dreams, finding out they won’t be able to fund the purchase is a blow. Fortunately, a mortgage loan denial doesn’t mean you’ll be stuck renting forever.

Once you get over the initial disappointment of not being approved for your loan, the next step is to take action to fix whatever problems caused your application to be turned down. Start by reading the denial letter. Lenders are required to send you this notice if they don’t approve your loan, and it should contain important information about why you’ve been turned down. Once you have that information, you can figure out what you need to do next to get approved.

Here are five of the most common reasons you might be denied for a mortgage, along with what you can do to fix your problem and achieve your dream of owning a home.

Problem: The appraisal is too low

Nothing can kill a real estate deal faster than a lower-than-expected appraisal. A bank won’t want to lend you $300,000 to buy a home that’s only been appraised at $250,000. If you fail to pay your loan, the lender needs to be confident it can still sell the property for more than the outstanding mortgage. Fortunately, if the appraisal comes back low, you have options, and they don’t have to include overpaying for your dream home.

Solution: Get another appraisal

sale pending sign real estate

Home with a “sale pending” sign | Justin Sullivan/Getty Images

When the agreed-upon selling price and the appraisal don’t line up, you may be able to renegotiate the deal, especially if the sellers are motivated. You can also appeal the appraisal if you think the appraiser is using the wrong comps, missed key home improvements, or calculated the square footage incorrectly. If the appraisal re-do doesn’t get you the results you want, consider another lender.

“If you get declined due to LTV (loan-to-value), it’s always worth looking into a new lender to see if you could get another appraisal,” Mathew Carson, a broker at First Capital Group Inc., told Bankrate. “A lot of these appraisers are shooting in the dark. Depending on what management company the lender uses, the appraisal can change greatly.”

Problem: Your credit score is too low

hand checking poor option for credit score

Poor credit score | iStock.com

A low credit score can sink your mortgage loan application. Lenders don’t want to give money to risky borrowers, and if you have a history of unpaid bills or a ton of debt, the response to your request for a loan could be a big fat no. Also keep in mind that the minimum credit score for buying a house can depend on the type of mortgage. Generally, you need a score of at least 580-620 to even receive a mortgage. However, scores that low will usually result in higher interest rates. You often need a credit score over 700 to receive more favorable mortgage rates.

Solution: Consider a rapid rescore

Credit report dispute form

Credit report dispute form | iStock.com

When bad credit is standing between you and a mortgage, you need to bump up your score. If you’re patient, you can take steps to repair your credit (like paying down debt and not opening new accounts) and reapply in a few months. But if time is of the essence, a rapid rescore may save the day.

Say you just paid off a big debt or there’s an error on your credit report. Your lender can request that a credit bureau do a rapid rescore in order to get a better idea of your actual creditworthiness. The process usually takes just a few days, so you’re less likely to lose out on the home you want. Rapid rescore won’t make a bankruptcy disappear or fix the problems caused by genuine delinquencies, but it can be helpful for certain borrowers.

“If you have the means to pay down your debts and have a current credit score that is relatively close to the score the bank says you need, it may make sense to ask your lender to take advantage of a rapid rescore option in order to save money on interest and fees in the long run,” according to Experian.

Problem: The bank thinks you don’t make enough money

Payslip mock up on a table

Paycheck | iStock.com

When a lender is deciding whether to offer you a mortgage, they look at what the ratio of your housing expenses to your income will be. Generally, banks don’t want you to be spending more than 28% of your before-tax income on your mortgage and housing insurance payments. If your payments will exceed that amount, your loan may be denied. They’ll also look at your debt-to-income ratio, which includes your mortgage payments along with any other debt payments. If you’ll be spending more than 43% of your income on debt, you’ll probably be denied.

Solution: Get better documentation

$100 bills

$100 bills | iStock.com/halduns

Sometimes, the only solution to the income problem is to make more money or pay down debt. You may simply want to borrow more than the bank thinks you can afford. But in other cases, you can actually afford the payments, and better or more extensive documentation may prove it.

Say you have income from a side business or part-time job, rental income, or receive alimony payments. Make sure the bank knows about that income so they can include them in their calculations. W2s, a history of regular bank deposits, and tax records will help. Those who earn tip income need to report it on their taxes. If you’re hiding your income from Uncle Sam, you’re also hiding it from your mortgage lender.

If you’re self-employed, the bank may also be skittish about lending. In that case, tax records going back several years, profit-and-loss statements, and other documentation can help show your income is consistent.

Problem: Your down payment is too low

woman putting coin into piggy bank

Putting money in a piggy bank | iStock.com/dolgachov

Many lenders will require you to put up a down payment of at least 20% before they approve your mortgage. But getting to that number can be difficult, especially if you live somewhere where housing prices are through the roof. If your down payment doesn’t hit the mark, you could get a rejection letter.

Solution: Consider a low-money-down loan

wells fargo home mortgage sign

A Wells Fargo Home Mortgage sign | Scott Olson/Getty Images

While putting 20% down is the norm when buying a home, there are ways to buy a home even when you can’t afford a hefty down payment. FHA loans, VA loans, and USDA loans are available to borrowers who don’t have as much cash on hand. Some banks also offer low-money-down loans. Down payment grants can also help low- and middle-income buyers bridge the gap between their savings and the down payment required for a loan.

Problem: Your assets aren’t “sourced and seasoned”

Blank check and pen

Blank check | iStock.com/Timurpix

Suddenly depositing a lot of money in your bank account and then applying for a mortgage is a recipe for denial. Banks are going to ask where those mysterious funds came from. Specifically, they want to know that you aren’t borrowing money from another bank or person, since having an additional outstanding loan could make it difficult to pay your mortgage. To get your loan, you’ll need to show where the money came from or let it sit in your account for a while (at least three months if not six months) so it doesn’t raise a red flag.

Solution: Wait and document

Man calculates money on calculator along with piggy bank

Calculating income | iStock.com

If you’re keeping your down payment savings in a shoebox, make sure that money makes it to your bank account at least 60 to 90 days before you apply for your mortgage, according to Quicken Loans. Most lenders will look at bank statements for the past couple of months but won’t go back any further than that. If you’re receiving a gift from your parents, hit the jackpot at the casino, sold a big asset, or borrowed money from your 401(k), keep a paper trail that shows the money came from a legitimate source and doesn’t need to be paid back.

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