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Three C’s of Underwriting And How They Impact Your Mortgage Application

A happy homeowner couple shake hands with their underwriter after their mortgage application is approved


The three C’s of underwriting are important factors that lenders consider to determine if your mortgage application is approved or denied.

  • Capacity – borrower’s ability to easily pay your debts not just your mortgage payment but all your other monthly debt obligations, including car loans, educational loans and credit cards.
  • Credit – borrower’s credit history and credit score.
  • Collateral – assets that a borrower pledges as security for a loan.

Capacity, Credit, and Collateral are the three C’s of underwriting. Since they can significantly impact your mortgage application, you should take the time to understand how they are used in the underwriting process. Every underwriter in the country has criteria they have to follow based on the three C’s of underwriting, and each component serves a specific function within the underwriting process.

Before diving any deeper, let’s start with the basics… what is underwriting and what do underwriters do?

What Is An Underwriter And How Do They Impact The Mortgage Process

An underwriter is someone who works for the lender, reviews your loan application and documentation, and issues your loan approval. This is true for mortgage origination (when you are buying a home) or additional home loans (like second mortgages or other loans to access your home equity). They are the “decision maker.” An underwriter evaluating your loan application, based on the underwriting guidelines the lender has established, will follow a step-by-step process. The results will determine if your mortgage application is approved or denied.

Capacity: Debt Ratios, Cash Reserves, Loan Characteristics

The first of the three C’s of underwriting is Capacity. When underwriting a mortgage, Capacity is your ability to easily pay your debts not just your mortgage payment but all your other monthly debt obligations, including car loans, educational loans and credit cards. 

And this is why the first “C” is Capacity; if you can’t pay your debt, it doesn’t matter what your credit score is or what type of property you are buying. An underwriter will evaluate your ability to repay your debt before reviewing the additional details of your loan application. 

Debt-To-Income Ratio (DTI)

One of the most common terms you will hear during the loan process is “debt-to-income” ratio. What does this mean? Your debt-to-income ratio (DTI) is a simple calculation that shows the relationship between your income and the total amount of your debt payments. Let’s say your total monthly income is $10,000, and your total monthly debt payments are $4,500. Your DTI is 45% (4,500 / 10,000).

What goes into your DTI? All of your consumer debt, your total mortgage payment, and additional items like a monthly payment towards back taxes (if you owe them). When it comes to your total mortgage payment, that includes the payment for the money you are borrowing along with your property taxes, property insurance, Private Mortgage Insurance (PMI) or Mortgage insurance (if they apply), and any HOA dues (if applicable).

Even if you don’t impound your property taxes and insurance, the underwriter will still use those amounts in their DTI calculation.

Cash Reserves

What are cash reserves? Cash reserves are the amount of money you will have in your account(s) post-closing. For some loan applications, cash reserves are required. Cash reserves are commonly referred to as an “emergency fund.” When cash reserves are a part of the loan approval, an underwriter typically wants to see three to six months of your total mortgage payment as cash reserves (sometimes more).


Your underwriter wants you to have six months of cash reserves. Your mortgage payment is $1500 per month, your property taxes comes out to $400 per month, and your property insurance comes out to $100 per month. You would need $12,000 in cash reserves to meet the underwriter’s requirement ($1500 + $400 + 100 X 6 = $12,000).

Acceptable accounts showing cash reserves include your checking and savings account, a 401k, or a liquid investment account. 

Loan Characteristics

Loan characteristics refer to your loan structure, such as the type of loan you are applying for (i.e., 15-year fixed-rate home equity loan. Additional loan characteristics are.

  • Is it a purchase, refinance transaction, or second mortgage?
  • If it’s a refinance, is it a cash-out refinance or a rate/term refinance?
  • Is there a subordination of a second mortgage or a home equity line of credit?
  • Is there a temporary buydown of the interest rate?
  • Will there be a balloon payment?
  • The loan amount size

Typically, your best mortgage terms come with a purchase transaction. And a fixed-rate mortgage is generally easier to qualify for than an adjustable-rate mortgage.

Credit: Credit Score, Credit History, Derogatory Information

The second C in the three C’s of underwriting is Credit. Most homeowners recognize two simple facts about how credit impacts your loan application.

  • The higher your credit score, the lower your mortgage rate
  • The lower your credit score, the higher your mortgage rate

In addition to your credit score, the underwriter will review your credit history and derogatory account information.

Credit Score

When it comes to mortgage underwriting, there are different credit score tiers. Each lender has their own tier system, but most follow this structure:

  • 780+
  • 740 – 779
  • 720 – 739
  • 700 – 719
  • 680 – 699
  • 660 – 679
  • 640 – 659
  • 620 – 639
  • 600 – 619
  • 580 – 599

To obtain the best mortgage rate, you typically need a 780 or higher credit score. Once you move below a 700 credit score, program availability diminishes, and mortgage rates move noticeably higher for most home loan programs.

While the credit score tiers go down to a 580 credit score, not all mortgage lenders will approve a loan application with a 580 credit score. Many lenders will only approve a loan application with a 620 or higher credit score.

Credit History

Your credit history is a vital component to underwriting your loan application. Underwriters will look at the number of accounts you have and how long they have been open. Included within your credit report is the maximum credit amount extended by each creditor, the highest balance you’ve carried, and monthly payment amounts for each account listed.

If it’s an amortized loan with a set monthly payment, your credit report will also include the number of months the amortized loan is based on and how many months you have left to pay on the loan.


An interesting side note about amortized loans on your credit report (such as a car loan or personal loan) is that an underwriter can sometimes exclude your monthly debt payment if you have ten months or less remaining on the amortized loan.

This applies to car loans but not car leases. Why? Because at the end of a car loan, you own the car and do not have an immediate need for a new car. At the end of a lease, you either need a new lease or obtain a loan to pay off the balance you owe on the lease and this means you will continue to have a debt payment associated with a car.

Derogatory Information

Derogatory information on your credit report is an account or public record that negatively impacts your credit score.

Some examples of derogatory information include.

  • Late payments on a credit card (or another account you are making payments on).
  • A collection or charged-off account
  • Judgment, foreclosure, or bankruptcy

When it comes to a late payment, it’s not reported to the credit bureaus until after it’s 30 days late. That means if you’re a week or two late with the payment, it should not end up on your credit report as a 30-day late payment.

A collection account occurs when a creditor believes you cannot make sufficient payments toward the amount owed, so they sell your account to a collection agency. This typically happens after you go ninety or one hundred twenty days late. Before selling it to a collection agency, the creditor will list your account as a “charge-off.” A charge-off means the company has written off the debt as a loss.

Collateral: Type Of Property, Down Payment (or Equity), Property Use

The third C is Collateral. The third C of underwriting is about the home you are using for the loan. Specifically, the property type, the amount of money you put down (or the equity you have), and how you will use the property.

Type Of Property

There are five main types of property in residential mortgage underwriting. 

  1. Single-Family Residence (SFR)
  2. Condominium
  3. Multi-Unit property
  4. Manufactured home
  5. Mobile home

An SFR is the most common type of property. 82 million out of the 129 million occupied housing units in the United States are Single Family Residences.

The second most typical property type is a Condominium. Typically, a Condominium unit is grouped with other units in one building, and the homeowners share a common area (or more than one common area). However, there are rare instances where a free-standing house that looks like a Single-Family Residence is actually a Condominium. This happens when a group of free-standing homes share a common area (or multiple common areas).

Multi-Unit residential properties or properties with multiple living units within the building structure. Unlike a Condominium, Multi-Unit housing does not have an HOA, and usually, most, if not all, of the units are rented.

Manufactured homes are becoming more common, and these are homes built in a factory and then installed on top of a foundation. Underwriting Manufactured homes will come with some additional steps, including getting a foundation inspection by a structural engineer.

Mobile homes can easily be moved, and they are not in a foundation. Locating a lender can be difficult for this type of property since most traditional mortgage lenders do not offer a Mobile home loan program.

Down Payment (or Equity)

The down payment, or equity, is key to understanding the third “C.” It impacts your mortgage rate as well. Like your credit score, the higher the down payment or, the more equity you have, the lower your mortgage rate. A frequently used term associated with this is “loan-to-value” ratio (LTV). A loan-to-value ratio is a relationship between the home’s equity and the loan amount.

LTV Example

If you have an LTV ratio of 80%, and your home is valued at $500,000, that means your loan amount is $400,000, and you have $100,000 in equity. 

Your best mortgage rates typically come with an LTV of 60% or lower. And some lenders will allow zero down and an LTV of 100% (VA home loans). With conforming home loans, your maximum LTV is 97%, and with FHA home loans, it’s 96.5%.

Property Use

When it comes to property use, there are three categories:

  1. Primary residence
  2. Secondary residence
  3. Investment property

Underwriting standards for a primary residence and a secondary residence are similar. Credit score, loan-to-value and debt-to-income ratios, and credit score requirements are more flexible than the underwriting standards for an investment property. And before 2022, secondary residences usually came with the same rate as primary residences (under the Conforming loan program). That changed when Fannie Mae increased the upfront cost it charges lenders on secondary residences (January 2022). Not surprisingly, that cost was passed on to loan applicants.

Regarding an investment property, the underwriting standards are more restrictive. Your loan-to-value and debt-to-income ratios will be lower, credit score requirements will be higher, and you’ll need to show liquid reserves.

Capacity, Credit, and Collateral

The three C’s of underwriting play an essential role in the underwriting process. Regarding Capacity, your debt-to-income ratio is the most important component. Ideally, you would like your DTI ratio to be at or below 40%. There are home loan programs that allow up to a 50% DTI ratio. And one loan program allows for a DTI ratio above 50% (VA home loans).

When it comes to Credit, your credit score plays the most prominent role in underwriting. It has a significant impact on both the underwriting process and your interest rate. Keeping credit card balances at or below 35%, making your payments on time, and limiting inquiries will increase your credit score.

Your home is the Collateral the lender will use as a guarantee of repayment. The type of property, your down payment (or equity), and how you will use the property are equally important to underwriting.

Disclaimer: The above is provided for informational purposes only and should not be considered tax, savings, financial, or legal advice. All information shown here is for illustrative purpose only and the author is not making a recommendation of any particular product over another. All views and opinions expressed in this post belong to the author.

Kevin O'Connor

Written By Kevin O'Connor

Loan Officer Kevin O’Connor has over 17 years of experience as a Mortgage Loan Originator. He is fully licensed with the California Department of Real Estate and the Nation Wide Multistate Licensing System (NMLS). He has worked with thousands of homebuyers and homeowners over the course of his career. From first-time homebuyers to experienced property investors, he has earned the reputation of putting his client’s priorities first. He is a trusted advisor who has a wealth of knowledge and expertise.
Jeff Levinsohn

Reviewed By Jeff Levinsohn

Jeff is the CEO of House Numbers and a home wealth management geek. He’s obsessed with tools and information that empower homeowners to save money, access their home equity, and build long-term wealth.