Question: Are closing delays common? We’re selling our home. The good news is that we have a buyer. The problem is that closing will be delayed because of a mortgage issue. What can we do?
Answer: Figures from the National Association of Realtors (NAR) say that about three-quarters (76 percent) of all existing home sales close on time. That’s an improvement over 2015 when just 65 percent of all closing settled when planed.
What about the rest of the closings? Nineteen percent of all settlements were delayed in the first quarter of 2018 and five percent fell through and were terminated. These are significantly better results than we saw in 2015 when 26 percent of all closings were delayed but ultimately settled and nine percent were terminated.
What these numbers tell us is that closing delays are fairly common and terminations are not unknown. The biggest problem involves “issues relating to obtaining financing” (33 percent) while “appraisal issues” (22 percent) are second.
Translation: More than half of all closing problems are related to mortgages.
It’s hard to believe that mortgages account for so many delays and terminations. In the electronic era much traditional underwriting work can be done in minutes. Lenders increasingly have the ability to electronically get verified bank account and tax information with the press of a button. In many cases Fannie Mae and Freddie Mac no longer require appraisals if buyers will allow transactions to go through without the services of a professional appraiser.
However, if you look at the mortgage origination process it’s clear where things can go very wrong. For instance, required paperwork is not delivered to the lender. The lender can’t verify income, employment or asset claims. But the biggest problem is likely that a borrower is qualified one day but not the next.
To get a mortgage borrowers must pass many tests. There is the income test – you must have enough. The employment test says you must be able to show how you earn your income and that your earnings will continue. But the one test which seems to stymie many borrowers is the debt-to-income (DTI) test.
Mortgage programs allow borrowers to spend a given percent of their gross monthly income on housing and on all debts including housing costs. For instance, the FHA program will generally allow borrowers to spend as much as 31 percent of their gross monthly income on housing and 43 percent for all debts. There are cases where the ratios can be higher such as with energy-efficient mortgages, but 31/43 is a good working ratio.
If borrowers have a gross household income of $8,000 a month then they can devote as much as $2,480 (31 percent) with the guidelines for mortgage principal and mortgage interest plus property taxes and property insurance – what’s known as PITI. Within the guidelines our borrowers can also spend $3,440 (43 percent) for all recurring monthly debts including PITI.
When lenders run the numbers early in the origination process they may find that the borrowers are within the debt-to-income guidelines and proceed with the mortgage. In the old days this was pretty much the end of the DTI process but now things are different. In the electronic era we can track borrower spending as it happens. Put $12 on a credit card before closing and lenders will know about it.
Why is this important? Between the time a mortgage application is submitted and closing borrowers often add to their debts. Higher debts mean steeper monthly costs and for marginal borrowers that can result debt-to-income ratios above the limits. Electronic monitoring systems kick in. Suddenly a loan application which was okay is not unacceptable.
Mortgage borrowers often open new credit accounts or add to credit balances between the time they apply for a loan and closing. One study estimates that about 20 percent of all mortgage applicants do this.
Borrowers need to protect their interests. One strategy is to simply borrow less to avoid bumping up again DTI ceilings. A second is to stop spending once a loan application has been submitted. Forget about adding debt to credit cards or buying appliances before closing. A car purchase is out of the question.
Closing Delays and Appraisals
You can see the likely “problem” with appraisals. The property doesn’t appraise. The lender will finance the home on the basis of the sale price or the appraised value, whichever is less. There may have been a situation where the buyer and seller agreed on a $400,000 sale price but the appraiser valued the property at $395,000. As a result either the buyer will need to come up with more cash, the seller will have to lower the price, or both. If those things don’t happen then the transaction is likely to fall through.