When applying for a home mortgage loan, your lender may mention that you’ll need to show that you have “reserves” after your loan closes.
So what exactly are loan reserves?
Reserves are savings balances that will be there after you close on your home purchase. Lenders like to see funds available that can pay your housing expenses even if your income stops or is reduced. Reserves are sort of an “emergency fund” that can be used to cover your housing expenses in case there’s a change to your financial situation once you close on your home.
Reserves are measured in months—the number of months of housing costs you’d be able to cover with your savings.
Let me give you an example.
Assume that after completing your home purchase, you’ll have $6,000 in savings. If your housing costs (principal, interest, taxes and insurance) are $1,500 a month, you have four months’ reserves ($6,000 / $1,500 = 4).
How much do I need?
Reserve requirements vary by loan program and by your credit profile. Some programs require six to 12 months reserves—especially for those who are self-employed or on commission—while some loan programs only require one to two months’ reserves available after loan closing.
Do I really have to have that much cash available?
I know…saving for a down payment and closing costs and now reserves can seem like quite an uphill battle. The good news is that the requirement for reserves doesn’t necessarily have to consist of cash in your checking or savings accounts.
The lender is happy if you happen to have the required reserves in cash, but for a lot of borrowers, this is a high bar. The good news is that lenders see liquid assets as anything that can be quickly converted into cash including stocks, bonds, mutual funds, the cash value of an insurance policy, accessible retirement funds, and certificates of deposit (CDs).
Your funds need to “seasoned”
Your lender will require your reserve funds, including those in your retirement account, to be “seasoned.” This means the money has been in the account for a certain length of time, typically 60 days.
Lenders require seasoning to ensure that borrowers are not using personal loans from friends or cash advances as their reserve funds. Your lender will also require an audit trail for all recent deposits. For instance, if you recently sold stocks from a brokerage account and deposited the proceeds into your checking account, you’ll need to show statements from both accounts, as well as any paperwork associated with the transfer. Similar to seasoned money, your retirement funds may not all be vested, in which case the lender will usually only count those funds that are available for withdrawal.
In Summary
In short, here’s what you need to know about loan reserves.
- Reserves are savings balances that will be there after you close on your home purchase.
- Reserves are measured in months—the number of months of housing costs you’d be able to cover with your savings.
- Reserve requirements vary by loan program and by your credit profile.
- The requirement for reserves doesn’t necessarily have to consist of cash in your checking or savings accounts.
- Your lender will require your reserve funds to be seasoned.
If you’re interested in purchasing a home, I’d love to help.
Sharetha M. Holman is a licensed NC real estate broker with Apex Realty of the Carolinas, Inc, primarily serving the Charlotte NC and surrounding areas. Connect with me on Facebook, Instagram, and Twitter!
To start your home search today, visit Apex Realty of the Carolinas.com.