Subprime loans seemed to have gone away forever after the housing crisis. After all, who would want to lend money to someone that cannot verify their income and risk facing default again? Certainly, none of the big banks ever want to go through that again. And the government even made sure that it was not possible with the new Dodd-Frank Act of 2010 and the Ability to Repay Rules that both made sure that the lender not only verified the income of every borrower but also ensured that they would be able to afford the loan well into the future or take the risk of the borrower being able to take legal action against the borrower. All that being said; however, subprime mortgages are making a comeback – so what’s the catch?
There really is not a “catch” per se when it comes to subprime loans – they are simply an option for self-employed or heavily commissioned borrowers to get a mortgage. But just because they are able to state their income does not mean that they do not have to verify other things to ensure the validity and solidity of their application. Every borrower that states his/her income will have to have the following things evaluated:
- Credit score – Most lenders want a credit score over 680, but every lender differs; some will be higher and others will be lower.
- Assets – Every borrower will have to have assets and be able to verify them. These assets are how the lender determines if the income you state is true or not. For example, if you state that you make $100,000 per year, yet you have very little money in your bank account and no other assets to speak of, that $100,000 per year will be hard to prove. If you can prove the income, then it might make the lender think that you are in over your head as it is and cannot take on a new mortgage.
- Employment – Someone has to verify your employment, even if you are self-employed. If you work for someone and make more than 25 percent of your income in commission, then your employer can verify your employment. If you are self-employed you can provide a valid business license or a letter by your CPA on his letterhead validating the existence of your business and the length of time it has been in operation.
In addition, you will likely need to put down a higher down payment. It would be hard to find a lender that would be willing to settle for the 3% down payment that you could find on a conventional loan with full documentation. Generally, you will have to put at least 20 percent down, but sometimes even more, depending on your risk levels and the risks the lender wants to take.
One thing that really stands out on the subprime loans is the higher rate you will have to pay. This is not to say that you will have an extraordinary rate if you are self-employed, though. Every loan has a different rate that is based on the following things:
- Credit score
- Amount of assets
- Length of employment or self-employment
- Debt ratio
- Level of risk that you bring to the lender
There are adjustments for every category. For example, if your credit score is near the lower end of the threshold that the lender allows, then you will likely have a hit on your interest rate for that. In addition, if you are putting a lower down payment down or are new to the line of business that you are in, there will be slight adjustments in your interest rate for that.
Every lender differs in what they require and offer to each borrower. Make sure that you shop around with various lenders if you are interested in subprime loans. They are nowhere near as difficult to find today as they were in the past, so make sure you ask around in order to get the loan with the most attractive terms for yourself.