Reserve Requirements for Mortgages

Here’s a fancy mortgage loan term that you need to have an understanding of as you move towards buying a home and getting your financing approved. “Reserve Requirements” – something that wasn’t necessary for quite awhile, but, guess what, They’re Baaack!

During the past several years during the big subprime-Stated Income-easy credit frenzy, the idea of “Reserve Requirements” pretty much went away. But now they are coming back and many loans today absolute require them. So what are they?

Can You Prove You Have A Pile Of Reserves Somewhere?

“Reserves” is a fancy term for “Money” or “Assets”, as in, you need to have some. In order to qualify for many loan programs today, the lenders are requiring that you have certain minimum amount of money in the bank. You won’t need to spend this money to get the loan, with the exception of any down-payment and/or closing costs you may be paying yourself to close the loan. But above and beyond these cash-to-close needs, you will likely need to prove you have access to a pile of “reserves”. Think of them as a kind of emergency fund you can draw from in case you’re caught short one month.

Lenders have known for years that people who have money set aside in the bank are far less likely to get into trouble and get behind on their payments than people who live paycheck to paycheck and run their checking account balance down to single digits each month. When all those easy-credit loans were being made (the ones that led us to the current record-high foreclosure rates), nobody cared much about “reserves”. But all that has changed.

People who have money in the bank usually have money to pay bills! What a Concept!

How much “reserves” do you need? It depends. There are many factors involved here. It can vary anywhere from zero to 6 month’s worth, and…

“Stop Right There!” you interrupt. “You said I’m going to need reserve money, then you say I can get by without any (“zero”) or I might need “6 month’s worth” – whatever that means! Will you kindly make some sense here? You be confusing me!”

Okay, calm down. You’ve got to understand that even when I’m trying to make things simple, it’s tough to do that. This lending game is all about the “overall picture” – known in the industry as “layering of risks”. Each approval is slightly different than every other approval. You can still get a loan with no money in the bank – but there has to be either “other factors in your favor” (like strong credit, good job history, stable income, etc) OR you’ll pay a higher price for the loan (in the way of interest rate).

What’s this “Month’s of Reserves” all about?

If your loan approval depended on having 6 month’s reserves, for example: You take the total monthly payment on the home, including taxes and insurance, and multiply by 6. So, if your new monthly payment is $2,000 a month, you’d need 6 x’s $2,000 = $12,000 in the bank – AFTER you’ve paid whatever cash you need to close the loan.

MOST programs DON’T require 6 month’s – so don’t get scared. But many programs today require 1 or 2 month’s of reserves. So even if you’re hoping to get into a zero-down mortgage program (which are getting harder and harder to find), it’s still a very smart plan to start putting away some money into a reserve account (and this is a smart thing to do financially anyway – now I just gave you a pressing reason to start doing this). Your loan approval could depend on it.

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• Should You Pay Off Your Mortgage Early?