How to Get a Home Loan in Colorado

In this guide from Agents for Home Buyers, we continue our step-by-step guide to buying a home with a look at home loans and financing. Arranging financing for a home purchase should be one of the first things home buyers do before looking for homes. What’s the point in shopping for homes if you don’t know what you can afford? Let’s explore how to get a home loan in our Boulder, Colorado real estate market.

Start Your Home Search by Finding a Good Loan Officer

At Agents for Home Buyers, we feel it’s important for home buyers to arrange for home financing before they begin searching for a new home. See more in our guide: How to Find a Good Mortgage Broker.

A good loan officer is not the bad guy. They are not the gatekeeper whose job it is to deny you a mortgage. Quite the opposite! A mortgage broker is a “loan coach” who can help you learn how to get a home loan. The role of the loan officer is to identify the types of loans that best meet your needs, at the best interest rates and terms, and to help you find ways to qualify for the best loan for your situation.

During a one hour meeting with a loan officer, you should be able to find out how much you can borrow. A lender can explain different mortgage loan terms and discuss the advantages of each. He or she will describe 15- or 30-year fixed rate loans and estimate how much your payment would be. They’ll explain how you could extend that with an adjustable or balloon mortgage, and whether that’s right for you.

Furthermore, a lender can tell you how much you could afford if you limit yourself to the monthly payment you’re comfortable with. Finally, you’ll want to know how much cash you will need to complete the purchase. If you are short of cash, they can provide you with sources available to help you raise it. There are a wide variety of assistance programs for home buyers who need cash for a down payment and/or closing costs.

Meet with a Loan Officer Before Making Financial Changes

If you’re going to buy a home in the next year, don’t pay off credit cards, sell or buy a car, or do anything else to get your financial house in order before you meet with a loan officer. Outline your financial situation and your home purchase plans with the loan officer and let them help you put together a game plan for how to get a home loan.

It is generally best to work through a local bank or mortgage broker, not through the internet (like Rocket Mortgage) or with a lender in a different state. Both sources of loans will generally offer you the same loans at the same interest rates, but with the local lender you’ll also get the benefit of their knowledge of local financing and home purchase practices. As we mentioned in the introduction to this guide, real estate is very local and practices vary widely from state to state. It’s better for you to have a professional on your side than a website.

Your Loan Officer Is an Expert So You Don’t Have to Become One

The web provides an ocean of good mortgage loan information. Links to some of the best sites are provided below. A word of advice: Don’t go overboard in exploring how to get a home loan online. You might flounder in this ocean of info.

More specifically, don’t try to replicate the loan officer’s knowledge and experience by reading books or surfing the web. You don’t need to do that and it probably won’t help.

Most importantly, much of what you may read about mortgage loans on the web — or in print — is wrong. And all of it is incomplete.

It is wrong or incomplete because:

The mortgage loan market is constantly changing. It may be surprising to learn that mortgage lending is a pretty dynamic industry.
Local real estate practices influence loan practices. What’s true for Colorado may not be true in other states and vice versa.
Your personal financial situation may not translate into the general rules that govern the mortgage loan industry which, again, changes often.

Helpful Home Loan Websites

The information on the web can be well worth a few hours of your time as long as you don’t let it overwhelm you. And don’t let it discourage you from talking with a loan expert in your area. Local loan officers really do have the best info.

Freddie Mac has a great tutorial on the home buying process with sections on credit and loans. The site provides a number of useful calculators to help you compare renting to buying, estimate how much money you may be able to borrow, and so on.
HSH Associates is a mortgage and real estate company that studies and shares info on mortgage rates and related trends. Their website will take you beyond the basics. It’s one of the richest sites on the web for general information on loans, for housing and mortgage statistics, and for its variety of loan calculators.
Most mortgage loans in the U.S. are ultimately funded by either FHA, Fannie Mae, Freddie Mac, or the VA. Their sites provide robust sources of reliable and relatively unbiased mortgage loan information.

Types of Mortgages

There are many types of loans available to consumers in the U.S. market. In part, this is because mortgage lenders make money only if they can find a way to make you a loan. Additionally, it is because home ownership has long been a priority of the U.S. government. They have put money and programs behind this priority.

Much of the diversity in mortgage loan programs can be understood with reference to three factors:

The “Term” — 10, 15, and 30-year loans
The “Payment Structure” — fixed rate, adjustable rate, and balloon.
The “Source” — FHA, VA, conventional, and jumbo loans

Terms of Home Loans

We begin with loan term because it is the simplest of the three factors. The “term” of the loan is the time between when the loan is made and when the loan would be paid off if you made the monthly payments in the appropriate amount and at the appropriate time. The most common terms for mortgage loans in the U.S. are 30 and 15 years, but any term is possible in principle.

What Loan Term is Right for Me?

From the buyers point of view, choosing a loan term revolves around three factors:

Affordability: Most first time home buyers opt for 30 year loans. When a bank qualifies you for a loan, you are qualified not for a specific loan amount but for a specific monthly payment. At a 6% interest rate and a 30 year term, a $1200 payment will qualify you for a loan of about $200,000. On a fifteen year term at 6% interest, the same payment will allow you to borrow only about $142,000. In an expensive market buyers opt for longer term loans because it allows them to buy a better property and to keep their monthly payment at a comfortable level.
Gaining Equity in the Property: The longer the term of the loan, the more slowly you gain equity in the property. In the first month of the 30 year loan outlined in the previous paragraph, only about $200 of your $1200 payment will go toward paying off the principle of your $200,000 loan. The rest, $1,000, pays the monthly interest charged on the principal borrowed. So, in the first year, you will have paid $14,400 in monthly payments, but you will have paid off only $2450 of your $200,000 loan. With the 15 year loan, your monthly payment is about $1700, but the full $500 extra per month goes toward the payment of principle. With the 15 year loan, then, you would have paid out about $20,400 and paid off about $8450. With the 30 year loan, only about 17% of your payment is going toward principle; with the 15 year loan, about 41% does. Moreover, because you’re paying down the loan principle more rapidly, the portion of the payment going to interest drops off more rapidly as well. For example, by the time you reach the fifth year of your loan, you’d be paying about $875 a month to principal with the 15 year loan (about 52%) but only about $250, or 21%, with the 30 year loan.
Interest Rates: These advantages of the shorter term loan are magnified by the fact that the interest rates for shorter term loans will typically be less than those for longer term loans. Generally, the shorter the term of the loan, the lower the perceived risk to the lender. So interest rates for 10 or 15 year loans will generally be lower than 30 or 40 year loans. The difference varies, but is commonly between .5% and 1% lower.

Why Would You Choose a 30-Year Mortgage?

So why would any sane buyer opt for the 30-year loan? There are several very good reasons:

First, it’s your home. You’re getting the mortgage loan to buy a home, not a stock portfolio. While the investment aspect is important, if you can’t buy the home you need and where you need it with a 15 year loan, it makes perfect sense to use the longer term loan to make your life work. Paying out $14,400 to gain $2450 in equity (and some tax advantages) may not look good when compared to buying with a 15 year loan, but it sure looks good when compared to shelling out a similar amount for rent. Plus you get to live in the home and the community you want to live in.
Second, flexibility. With very few exceptions, you can make additional payments to principal on any loan. So many buyers opt for a 30 year loan, but make payments on the loan as if it had a 15 year term. The advantage is that you can gain equity at the 15 year rate, but have the flexibility of lower payments if you lose a job or need the extra cash to pay your kids’ college tuition.
Third, the investor’s perspective. Many real estate investors try to minimize the cash they put into a property, both at the outset as down payment and as a portion of monthly payment. Indeed, some investors will opt for “interest only” loans, where there is no payment of principle in the monthly payment. In part, their logic is as follows: Let’s say I buy a property for $200,000 and I sell it in 10 years for $325,000 (5% appreciation per year), so I’ve “cleared” $125,000. If my down payment was $10,000 and I got $1200 a month rent for the property, enough to cover my payment on the 30 year loan, I’ve made $125,000 on a $10,000 cash investment, multiplying my investment by a factor of 12.5. If I’d opted for the 15 year loan on the same purchase, I’d have invested $48,000 more in the property over the 10 year period, so I would have made $125,000 on $58,000 invested, multiplying my gain on the cash invested by a factor of only 1.16.

The Payment Structure of a Home Loan

In addition to the loan term, loan types are differentiated by the way the payment is structured. The most common mortgage loan payment structures are:

Fixed Rate Mortgages: With a fixed rate mortgage, the interest rate and the payment (excluding property taxes and insurance) are fixed, or stable, for the life of the loan. That is, if you get a $200,000 loan at 6% interest for 30 years, you know you’ll pay about $1200 each month for principle and interest for as long as you choose to keep the property and the loan. Historically, most mortgage loans in the U.S. have been fixed rate loans.
Adjustable Rate Mortgages (ARM): With an ARM, the interest rate and monthly payment (excluding property taxes and insurance) are fixed for a specified initial time frame and then adjust at specified intervals to follow changes in market interest rates either upward or downward. The initial fixed rate period may only be a month or two, or it may be several years. Once the initial fixed rate period is over, most ARMs adjust yearly, but many adjust monthly or biannually. If you see a loan marketed as a 5/1 ARM, this typically means it has an initial fixed period of 5, 7 or 10 years and then adjusts annually. Interest rates on ARMs are almost always lower than rates for fixed mortgages, since the borrower is sharing the investor’s risks regarding long term interest rates changes. Generally, the shorter the initial fixed period and the more frequent the adjustments, the bigger the difference between the ARM rate and the fixed rate. Depending on market forces, the interest rate on a 1/1 ARM may be anywhere from 0% to 2% lower than that of a fixed rate loan. Almost all ARMs mitigate the buyer’s risk of increasing interest rates by placing caps on how much interest rates can go up (or down) during each adjustment period and how much they can increase (or decrease) over the life of the loan. This allows the borrower to anticipate the worst case scenario in possible monthly payment increases.

These common interest rate structures can be modified to produce two variants that are used primarily in high interest rate markets or as a means of qualifying buyers for properties that they otherwise couldn’t afford.

Balloon Mortgages: As with an ARM, rates on balloon mortgages are lower than rates on fixed mortgages because the borrower is sharing risks of long term interest rate changes with the investor. Payments on a balloon mortgage are generally calculated as if the loan was for a 30 year fixed term, but the loan actually has to be paid off or refinanced (with a large “balloon payment”) at the end of an initial 5, 7 or 10 year term. Generally, the lender will guarantee to refinance the loan at the end of the initial term, but at the market rates prevailing at that time.
Buy Down Mortgages: A “buy down” is generally a fixed rate mortgage for which someone (the seller, the buyer or the lender) has made an initial cash payment that reduces the buyer’s monthly payment for the first 2-3 years of the loan term. This may be attractive to buyers who anticipate an increase in income within a year or two. They are also offered by many home builders since they increase the number of buyers who can qualify to purchase their homes.

Because of the risk of increasing interest rates associated with ARM loans, many buyers don’t give them serious consideration.

Why Choose an Adjustable-Rate Mortgage?

But there are some good reasons that 20% of American (and 80% of British) homeowners choose ARMs.

Because they offer lower interest rates, ARMs allow some homeowners to buy when or where they otherwise could not. With increasing prices in many real estate markets, it can make sense to purchase with an ARM loan rather than waiting to qualify for a fixed rate loan only to find that increasing prices have locked you out of the market.

If the buyer is planning on selling a property with just a few years, or if they are planning on paying off or refinancing the loan, it makes little sense to take a fixed rate loan with an interest rate that is a point or two higher than an ARM.

If interest rate differentials between ARMs and fixed rate mortgages are very high, smart, disciplined buyers can use ARMs to their advantage. For example, at an initial interest rate of 4%, the payment on the 30 year $200,000 loan used in our example above would be about $950, compared to $1200 at a 6% fixed rate. By paying that same $1200 monthly on the 4% ARM, the borrower pays an extra $250 per month to principal, that is, about $450 a month rather than $200 a month. This $450 is almost 38% of the monthly payment, just short of the 41% we calculated for the 15 year loan. Assuming interest rates don’t increase, the buyers making $1200 payments on the 4% ARM will pay off their loan about 10 years earlier than the buyers making the same payment on the fixed rate mortgage.

The Source of Your Home Mortgage Funds

Finally, in addition to the loan term (e.g., 15 year vs. 30 year) or the payment structure (e.g., fixed rate vs. ARM), loan types differ with respect to the “investor” who is the ultimate source of the money the mortgage company is lending you.

In many cases, the buyer will not be aware of who this investor is, but it is they who determine the “wholesale” interest rate at which your bank or mortgage broker gets the money to loan to you. And it is they who determine the rules under which the loan is made and the qualifications you have to meet in order to qualify for the loan. There are a few banks that do loan their own money. These banks can establish their own lending rules and their own procedures and requirements for qualifying buyers. But for the majority of U.S. mortgage loans, the bank or mortgage broker is really acting as a middle man between the borrower and the “investor” that is the actual source of the funds that are being loaned.

When defined in terms of the “investor” or source of funds, the vast majority of loans in the U.S. come from the following sources:

Conventional Loans: Most conventional loans are funded by either Freddie Mac or Fannie Mae, each of which has its own set of loan programs and rules. These programs have a maximum loan limit, which applies nationwide and changes from time to time. As of January of 2008, the general limit for conventional loans was $417,000. Traditionally, conventional loan programs required a minimum 5% down payment, with at least 3% of the funds coming from the borrower’s own funds rather than as a gift. In recent years, conventional loans of 97% and 100% of the purchase price have been offered, but the income and credit requirements are much stricter.
Jumbo Loans: Loans that exceed the conventional loan limit established by Freddie Mac and Fannie Mae are funded by a multitude of investors, each of whom establishes their own programs, rules and qualifications. Generally, these loans will require a minimum of a 5% down payment. Most require 10% or more.
FHA Loans: Federal Housing Authority (FHA) loan programs were established by the federal government in order to minimize the financial impediments to home ownership. The standard FHA loan requires a 3.5% down payment. All funds required for down payment and closing costs can come as a gift from a relative or from certain other sources. Income requirements and other rules are comparatively liberal. Loan limits are established on a county by county basis. They are adjusted relative to housing costs from time to time. As of December 2003, loan limits for Boulder County were $348,460. In Weld County, across County Line Road to the east, they were $$274,550. In Broomfield and Jefferson Counties they were $308,370.
VA Loans: Veterans Administration loans are available only to eligible veterans. VA loans are limited to the ceiling set for conventional loans. The VA has offered 100% loans for many years.

Generally, interest rates for conventional, FHA, and VA loans will be very similar, although occasionally FHA or VA rates may sometimes be slightly lower than conventional. Jumbo loan rates will generally be 1/2 point to a full point higher than conventional loan rates since larger loans are perceived to involve higher risks for the lender. Given market competition, fees and closing costs will also be similar from one funding source to another, although fees for FHA and VA loans can be lower because FHA and VA regulations limit some fees.

Each of these investors offers a wide range of specific loan programs. Generally, these are based on the various loan terms and payment structures we discussed earlier. Building on this foundation, however, these investors (and others) have developed a near limitless array of specialized programs. There are special programs for borrowers with extremely good or extremely bad credit ratings. There are even specialized loan programs designed for medical doctors moving to establish a practice in a new city and for immigrants without green cards.

So, while it’s useful to know the basics, it’s impossible to know it all. That’s what a good loan originator, and their support network, are for (see Mortgage Lender Staff). Use their expertise to help you sort through the options. That’s what they do for a living.

Your Credit Rating and How to Qualify for a Home Loan in Colorado

The quality of your credit history is probably the most important factor in determining what mortgage loan programs you will qualify for. The amount of money that you’ll qualify to borrow is largely a function of your income. If you have limited cash assets available, you’ll either have to explore the various assistance programs that are available or qualify for a high “loan to value” loan, borrowing 97% to 100% of the home’s value.

If you have adequate cash on hand, there are loans available no matter how bad your credit is. But you’re not going to like the terms if your credit is bad. We had a client several years ago whose credit was a disaster. A great loan officer found him a loan, but it was an adjustable rate mortgage (ARM) (see Types of Loans) with an initial interest rate of 13%.

If your credit is outstanding, you may qualify for a 100% mortgage loan. You may also qualify for better interest rates with certain loan programs. In addition to reviewing a report of your credit history, lenders have been using a credit score to qualify buyers for certain loan programs. There are three credit bureaus in the U.S. They are:

Equifax
Experian
TransUnion

Colorado residents should be able to obtain their credit report and score from any or all of these bureaus for free. Residents of other states may have to pay a small fee. When lenders review your credit, they use what is called a “merged report,” a report that combines the data from all three credit bureaus. You can obtain a similar report from MyFico for under $50.

How Much Cash Do You Need to Get a Home Loan in Colorado?

As outlined in our section titled Types of Loans, you may be able to qualify for loans at 97% or even 100% of the purchase price of the property you buy. Even if you qualify for these loans, however, you’ll need some cash to finalize your home purchase.

If you don’t currently have the cash in hand in your bank account, here are some thoughts on where you may be able to obtain the cash you need to purchase a home. We list a few options below, but please don’t even consider pursuing any of these options without reviewing them first with a knowledgeable loan officer. The rules that govern the mortgage lending industry are very restrictive with respect to where the buyer obtains the cash required for a real estate purchase. If you have the money, but haven’t followed the rules, you won’t get the loan.

Having said that, it is probably worth noting here that most mortgage loan programs require a review of only 2-3 months of bank statements in determining where you came up with the cash to purchase your home. Whatever the ultimate source of the cash, your lender will probably be oblivious to it if you’ve had the cash in your bank account for more than 3 months.

A Few Ways to Get Cash Before Purchasing a Home

Consult with a loan officer before pursuing these methods.

Gifts from Family Members

Some loan programs, and FHA programs in particular (see Types of Loans), will allow family members to give you a gift of all or part of the money you’ll need to purchase your home. If you have family members who are this generous, they will generally need to sign documents indicating that the money is a gift and that they are not expecting repayment from you. You will also probably need documentation that the money was withdrawn from the bank account of the person making the gift before it was deposited in your account. Talk to your mortgage loan officer and follow their instructions on how to do this.

Selling Other Assets

You can sell stocks, mutual funds, your car or just about anything else you own to raise the cash you need to purchase a home. If you do this while you’re looking for a home, or shortly beforehand, you may need to have detailed documentation of the sale and the transfer of the money into your bank account.

Write Yourself a Check Against Your Credit Card

If you do this after you’re under contract to buy a home, you’re probably not going to get the loan. If you do it far enough in advance (as in 3 or 4 months), the lender will just see cash in your checking account and a certain amount of credit card debt. If the debt isn’t too high, they will probably remain blissfully ignorant of where the money in your bank account came from and approve you for the loan. Again, if you’re doing this, talk it through with a good mortgage loan officer before you do it.

IRA, 401(k) or Other Retirement Funds

Check with your accountant, your loan officer, and your fund administrator, but in many cases you can withdraw certain amounts of money penalty free from retirement accounts if the money is used for the purchase of a primary residence. In some cases, you can even borrow money against these accounts and pay six or seven percent interest on the money you’ve borrowed back into your own retirement accounts.

Next Steps in Buying a Home in Colorado

Contact Agents for Home Buyers! Lindsey and Danielle can help you navigate the home buying process to find a great home you will love. It’s what we have been doing as buyers agents for 25 years in Boulder County, Jefferson County, Broomfield, Larimer County, and nearby.

Step 1: Educate Yourself About the Home Buying Process
Step 2: Form Your Team of Real Estate Professionals: Mortgage Broker and Buyer Agent
Step 3: Set Realistic Goals for Your Home Search
Step 4: Beware the MLS and Online Real Estate Databases
Step 5: Begin a Focused Home Search
Step 6: Craft Your Home Purchase Offer
Step 7: Negotiate the Contract
Step 8: Colorado Real Estate Documents and Forms
Step 9: Home Loans and Financing
Resources: Home Buyer Assistance Programs