What to do when you are denied credit by a lender

It's not uncommon for prospective home-loan borrowers to receive the dreaded news that their application has been denied. While no one welcomes a lender's "adverse action" letter, there are some steps you can take to get yourself back on track.

The first step is to relax and not panic. An adverse action letter isn't a personal attack on you, and it doesn't mean you're a bad person or a failure. It may mean that you won't be able to purchase the home you want or that you won't be able to purchase a home right away, but it doesn't mean you'll never be able to own your own home.

The next step is to review your personal situation and try to find out exactly why the lender declined your application. Was your credit score too low? Was your debt-to-income ratio too high? Was the appraiser's opinion of the home's value lower than the sales price? Or did some other problem crop up? It's important to find out the details because each situation requires a different solution.

Check your credit
If your application was denied due to your credit history or credit score, you should request free copies of your credit reports from either AnnualCreditReport.com or the three credit bureaus, TransUnion, Experian and Equifax. Be sure to get all three reports because adverse information in one report may not necessarily appear in the other two reports.

Loan officers rarely have the time or expertise to sort out individual borrowers' personal financial situations, so you'll need to swallow any pride or embarrassment that you may feel and ask a trusted family member, friend or other financial advisor to help you understand your credit report and strengthen your credit score. For more information on credit reports and scores, visit the Credit Advice section of the LendingTree Smart Borrower Center.

Be wary of anyone who promises to "fix" your credit for a fee. While you certainly can improve your own credit score over time, credit repair services typically can't do much for you that you can't do on your own if you put in the time and effort.

Take a hard look at your debt-to-income ratio
One of the reasons your loan application was denied may have been that your debt-to-income ratio was too high. If this was the case, you'll need to increase your income, reduce your debt or borrow less money. To understand this scenario, suppose you earned $2,000 a month and applied for a loan that required a monthly payment of $900. That debt-to-income ratio of 45 percent might be within the guidelines. But if you also had a monthly car payment of, say, $400 and a minimum monthly credit-card payment of, say, $100, those debts would push your debt-to-income ratio to 70 percent, which would be too high. A monthly debt obligation of $1,400 would leave only an inadequate $600 per month for all of your other expenses.

Borrowers who receive an adverse action letter sometimes try to approach another lender in hopes of a happier outcome. That's not always a smart idea since a lender that's willing to be more flexible about your situation probably will offer you a more expensive loan on less favorable terms. That quick-fix may solve your immediate problem, but may not be in the best interest of your long-term financial wellbeing.

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