Tougher Standards: Higher Mortgage Rates and Home Prices Lead to More Loan Denials

As rising home prices and interest rates drive up monthly mortgage payments, securing a mortgage has become a challenge for many prospective homeowners.

In 2022, “insufficient income” was the most commonly cited reason for loan application denials since records were first kept in 2018, according to a report from the Consumer Financial Protection Bureau (CFPB).

Overall, 9.1% of home purchase applications were denied in 2022, up from 8.3% in 2021 but slightly down from 9.3% in 2020. Refinance applications faced even higher rejection rates, at 24.7% in 2022, a significant jump from 14.2% in 2021.

“Insufficient income” was the primary reason for denials among Asian American (more than 50%), Black and Hispanic (45%), and white (around 40%) applicants. These figures have increased from below 40% for each group in 2018. As of December 2022, the average monthly mortgage payment had surged by 46% to $2,045, up from $1,400 in December 2021.

This trend isn’t surprising, considering the rising mortgage payments and rates resulting from the Federal Reserve’s rate hikes, according to Barry Glassman, a certified financial planner and founder of Glassman Wealth Services.

The increase in income-based mortgage denials can be attributed to higher mortgage rates and home prices, creating a challenging environment for first-time buyers with limited equity.

Additionally, rising consumer debt amid inflationary pressures is exacerbating the situation. Lenders typically seek housing costs to account for no more than 28% of gross income and follow the 28/36 rule, which considers housing expenses and total debt as a percentage of income.

To assess affordability, focus on your debt-to-income ratio (DTI) before applying for a mortgage, advises CFP Ted Jenkin, CEO of oXYGen Financial. If your monthly debt consumes more than 40% of your income, you’re at a higher risk of denial.

Lenders also consider credit scores, which the CFPB identifies as another potential hurdle. The median credit score for loan refinance applicants is now lower than that for home purchase loans.

To increase your chances of loan approval and secure better rates, monitor your credit score. Lenders often require scores of at least 600, with 760 or better earning the best rates.

“Improving your credit score can significantly impact your mortgage rate and monthly payment, ultimately preventing you from facing an ‘insufficient income’ scenario,” explains Jenkin.