Guide to Mortgage Underwriting


All lenders have begun to take extreme caution in making loans since the mortgage meltdown started in 2006.  Many changes have been made and currently, almost daily; a new or changed underwriting guideline surfaces.  The principles have not changed, but the parameters of loan structure; with more restrictions are becoming the norm.  This is not bad for consumer, due to the fact that a guide to mortgage underwriting should always be with the applicant’s best interest in mind.

Fannie Mae (FNMA) and Freddie Mac (FHLMC), stipulate the rules and regulations for underwriting conforming conventional loans.These two agencies are now part of the government but previously; only FHA (Federal Housing Association) and VA (Veterans Administration) regulated the government side. The lenders, banks and mortgage companies follow these rules and regulations.  When the loans are approved and closed by the lenders; they are then submitted to these Agencies to free up additional income to make more loans.

Underwriting the Loan:

The guide to mortgage underwriting consists of risk assessment and evaluating an applicant’s financial position.  More lenders are now going back to what is called manual underwriting to some degree, because of the defaults of the past few years. This is to ensure there are less defaults and no loop holes that might be overlooked by the automated underwriting engines of Fannie and Freddie.  This means that the underwriter is personally reviewing all criteria without regard to the recommendations that DU (Desk Top Underwriter, Fannie Mae) or LP (Loan Prospector, Freddie Mac) automated underwriting systems may have generated.  These systems also evaluate FHA/VA criteria. These automated underwriting systems generate a preliminary decision based upon what has been manually keyed into the system, pulls a credit report and gives a recommendation for one of the following:  loan approval, underwriter review or refer with caution; the latter not being suitable for delivery to the agencies.

The lender’s underwriter is looking for:

• consistency

• stability and

• willingness to repay the debt.

Before the underwriter looks at a client’s file; documentation has been gathered for the underwriter to analyze.  To include but not limited to: 

• Pay stubs

• W-2s

• Bank statements tax returns (where applicable) and

• Certain other documentation per disclosed information on application

The underwriter reviews the financial status not only by determining the ability and capacity, but also by evaluating their credit, income and assets. This is in fact the most crucial step to extending credit by any lender.  When the credit report is review it gives the lender first hand information as to the client’s responsibility toward credit obligations. The credit is reviewed for past and present history.  When credit is not suitable for making a loan; the loan is denied within three business days and no further documentation is warranted.  If they have managed their credit consistently within credit standards; the next important factor the underwriter reviews is their ability to make the payments.

The ability to make the housing payment plus other obligations is evaluated by calculating the applicant’s income, adding the new housing expense and other debts. By calculating the debt to income ratio; the underwriter can determine if the added debt can be made with little or no adjustments by the borrower. A borrower who has consistently had an increase in earnings will demonstrate the ability to take on more debt, versus someone who rarely receives an increase in wages. The self employed borrower is analyzed by submitting the most current two years personal tax returns and business tax returns. These are evaluated for stable increased net earnings over the prior tax year.  The debt to income ratio gives the underwriter a benchmark in making the final decision regarding income stability.  Normal benchmarks are 36% to 41%. These benchmarks may and are; sometimes over-ridden with substantial compensating factors.

Last but not least; does the client demonstrate the ability to accumulate savings?  This is measured by the review of the asset information submitted.  If the applicant has managed to save their down payment, plus any closing cost and reserves associated with the prospective loan; the financial analysis is completed.  If the credit criterion is approved the next important step is the evaluation of the collateral for the loan.  On occasions a lenders underwriter will review the appraisal report prior to approving the credit as there may be issues to resolve about the property or appraisal.