Fears over the economy have replaced anger at tough bank lending policies as the main reason why small firms are not borrowing to expand, a key survey shows.

The bank-funded quarterly Business Monitor, which is being watched closely by the Government, also found that banks were eight times as likely to reject loan applications and four times for overdraft applications as they had been in before the credit crisis in 2007, despite pledges by the high street banks to help those applying for credit to find suitable forms of finance.

Some 95pc of those rejected for a loan were not offered an alternative, the bank-funded quarterly Business Monitor reported.

The independent survey showed that of the 2pc of all small and medium-sized enterprises (SME) looking for credit during the period, some 70,000 small firms did not get the overdraft finance they required and 54,000 were rejected for loans.

The tough stance has hit new businesses the hardest, with just over a third of first time applicants for overdrafts proving successful, compared with 96pc of those renewing facilities.

A further 150,000 were discouraged from even asking. The main factor was the economy, followed by the belief that banks would turn them away.

Even fewer firms are planning to borrow in the run up to Christmas, with just 13pc saying they intended to approach their bank compared with almost two in ten earlier in the year.

The Bank of England reported that the main high street banks missed their small business Merlin agreement lending targets by £1bn for the third quarter and pressure is building on the Chancellor to counter concerns over the economy in his autumn statement on November

Labour said the fall in business confidence over the economy was “worrying”. Toby Perkins, the Shadow minister for small business, said: “We need more people setting up, growing and working in businesses, but all too often small firms are not able to get the finance they need to start up and expand and business owners are forced to rely on personal finance, which is completely unacceptable”.

More than one in ten of small businesses with loans or overdrafts said they had been told by their banks that their credit lines would change or be cancelled.

A third of all businesses around 1.5m fund themselves from cash flow and have no plans to ever borrow from a bank.

The survey found that on average overdraft margins were 3.9pc over Bank base rates for overdrafts and 3.6pc for variable loans. Banks typically charged 6.2pc for fixed term loans.

The British Bankers’ Association said with 63pc of firms securing the loans they were looking the survey showed the “myth” behind claims that banks automatically turn down credit applications.

Chief executive Angela Knight said: “Most SMEs are able to get the credit they need from their bank, though the majority of SMEs are happy to operate without external finance.

She added: “Unsurprisingly, although banks were able to help most applicants, smaller, high risk new businesses with no successful track record of borrowing found it more difficult to raise cash.”

However Marc Fecher, corporate finance partner at accountants Kingston Smith, warned that banks were making it more difficult to obtain overdrafts, used by many small firms to help them cope with fluctuations in cash flow.

“The danger to SMEs is that they could find themselves in a situation where, unless they are able to provide some form of security by way of assets, they may find overdraft funding increasingly difficult to obtain,” he said.

“There is a danger that SMEs, particularly those which are smaller and newer, could be further discouraged from applying for funding as the downward trend in overdrafts continues, as it is more difficult for them to meet the criteria for loan applications, which is again, a barrier to growth.”

Obama plans to accelerate a plan to cap student loan payments at 10 percent of income, bringing it forward to start in 2012 instead of 2014.

“Steps like these won’t take the place of the bold action we need from Congress to boost our economy and create jobs, but they will make a difference,” he said in a statement.

The loans initiative will be the third such move by Obama in as many days, following action to aid homeowners and boost hiring of military veterans. The White House wants to show he is an activist president battling a “do-nothing” Congress.

The loan changes do not require approval by Congress.

Republican lawmakers blocked a $447 billion jobs plan put forward by Obama last month because it raises some taxes.

Students helped push Obama into the White House in 2008. As he campaigns for reelection in 2012, Obama’s public approval ratings have fallen near 40 percent, the low of his presidency, because of discontent with his economic stewardship.

Americans owe more on student loans than on outstanding credit card debt, and total loans outstanding are slated to exceed $1 trillion this year, according to the Federal Reserve Bank of New York.

The rise in private student lending and growing debt defaults have also been highlighted by the Occupy Wall Street protesters.

Obama will announce the student loan measure in Denver on Wednesday as he wraps up a swing through western states that will be vital to his re-election campaign in 2012.

The White House estimates the loan changes could cut monthly payments for 1.6 million graduates.

Student debt will also be forgiven after 20 years, compared with 25 years under current law.

More than 36 million Americans have federal student loan debt, but only 450,000 have so far taken advantage of the existing income-based repayment program.

Obama will also make changes to allow 6 million students to bundle together certain federal loans to allow a single monthly payment, reducing the risk of default caused by juggling multiple debt obligations.

The option will be open from January and those that take it up will also get a 0.5 percentage point cut in the interest rate on some of their loans, lowering monthly payments and potentially saving them hundreds of dollars in interest.

“College graduates are entering one of the toughest job markets in recent memory, and we have a way to help them save money by consolidating their debt and capping their loan payments,” said Secretary of Education Arne Duncan.

Yes, there are other types of phantom income that incur a tax despite the fact that you’ve gotten no cash. However, after 30 years as a tax lawyer, I’d rank COD income near the top of my list of little understood tax traps. The good news is that there are exceptions and exclusions that may keep you from having to write a check to the IRS. So you’re not caught off guard, here are 10 things you should know about COD income.

1. Loans forgiven as gifts aren’t taxable.

If your debt is canceled by a private lender–say a relative or friend–and the cancellation is intended as a gift, there is no income to you. While it’s not income to you, if the lender forgives more than $13,000 in a year (the gift tax annual exclusion), it may count against his or her own $1 million lifetime exemption from the gift tax, so it’s often best for these loans to be forgiven a little at a time. A debt canceled by a private lender’s will, upon his death, isn’t income to you either.

2. There’s an exception for the mortgage on your home.

In 2007, in response to the mortgage crisis, Congress exempted up to $2 million (per couple) in mortgage debt on a principal home, forgiven from 2007 through 2012, from income. This exemption applies if:

–You restructure “acquisition” debt on a principal residence–meaning debt you used to buy or improve a principal residence. If you used a home equity loan to buy a boat or play the stock market and the lender forgives that debt, it’s not covered by this provision. (But if you’re bankrupt or insolvent, it still might not be income. See Points 3 and 4 below)

–You lose your principal residence in a foreclosure (but be careful: You may have income to the extent the canceled debt does not relate to the purchase or improvement of your principal residence), or

–You sell your principal residence in a short sale, where the sales proceeds are less than you owe and the lender writes off the balance.

Not surprisingly, if your lender writes off some of your mortgage, you will have to reduce your basis in the residence by the amount of discharged debt not counted as income to you. Note that this special relief for forgiven mortgages isn’t automatic; to take advantage of it you must file IRS Form 982, with the intimidating title, “Reduction Of Tax Attributes Due to Discharge of Indebtedness (and Section 1082 Basis Adjustment).” Get professional help.

3. Bankruptcy discharges aren’t taxable.

If your debt is discharged when you’re in bankruptcy, as part of a court-approved bankruptcy plan, it isn’t income to you. Again, the amount of the discharged debt goes to reduce certain tax attributes, such as net operating losses or the basis of property. Once again, the rules are complicated and Form 982 is required.

4. If you’re insolvent, you get a pass.

Even if you are not in bankruptcy, if you are “insolvent” when your debt is discharged, there is no tax. Insolvency is a simple test meaning your liabilities exceed your assets. To escape tax, your liabilities must exceed your assets by more than the amount of the debt discharged. Say you have $1,000 in assets and $2,000 in liabilities, so you’re underwater to the tune of $1,000. If your bank forgives a $500 debt, it’s not income because the amount forgiven is less than the amount of your insolvency.

5. Certain forgiven student loans aren’t income.

Another exception protects forgiveness of certain student loans. The student or former student escapes the tax hit if the loan is forgiven under a provision specifying that all or part of the debt is discharged if the individual works for a certain period of time in certain fields for a class of employers. So doctors, nurses and teachers agreeing to serve in rural or low-income areas in exchange for cancellation of their student loans won’t have income from the cancellation.

Then there’s the new federal income contingent student loan repayment program. If you work in the private sector, you must pay a certain percentage of your income for 25 years and any loan balance left after that is forgiven and counted as income to you. But if you work for the government, the balance is forgiven after 10 years of payment and doesn’t count as income.

6. There’s an exception for deductible interest.

There is no income from cancellation of deductible debt. That means if a lender cancels home mortgage interest (interest only, not the principal of the debt), and that interest could have been claimed as an itemized deduction on Schedule A to your Form 1040, there is no income.

7. You must account for Form 1099-Cs

No one likes IRS Forms 1099, but they’re a fact of life. Any government agency, financial institution or credit union forgiving a debt of $600 or more has to issue a Form 1099-C to you and send one to the IRS too. If you receive one and disagree with the amount shown, write the lender requesting that it issue a corrected Form 1099-C showing the proper amount of canceled debt. If you believe the canceled debt isn’t income to you because you’re insolvent or for any other reason, don’t ignore the 1099-C. Instead, fill out Form 982 explaining why it isn’t taxable.

8. A price adjustment isn’t income.

There is no income if an individual purchases property and the seller later reduces the price of the property. The purchaser’s basis in the property, however, is reduced by the amount of the adjustment. These days this exception can be particularly important. Say you bought a rental unit five years ago for $500,000 from the bank, and still owe the bank $400,000. The unit is now worth only $350,000. The bank agrees to reduce the debt by $50,000. If this is just debt discharge, it’s COD income. But if it is written as an adjustment to the purchase price, it’s not.

9. Certain farm and real business property debt gets special treatment.

Even if you are solvent, there are special rules for certain qualified farm debt. These rules apply only after you already apply the insolvency and bankruptcy rules. Similarly, a discharge of debt incurred to acquire or construct certain property used in a trade or business (“qualified real property business debt”) won’t trigger income (subject to limits). In both cases, the amount of forgiven debt excluded from gross income reduces your basis in property.

10. You can sometimes delay the tax hit.

Congress created yet another limited time rule allowing an individual or corporate taxpayer to delay the normal tax hit from reacquiring its own debt at a discount. The delay only applies if the debt was issued in connection with a trade or business and reacquired in 2009 or 2010. Debt that qualifies can be recognized over five years, beginning in 2014.

Banks say their loans are intended for emergencies and they are quick to distance themselves from the payday lending industry. But consumer advocates say these direct deposit loans — as banks prefer to call them — bear the same predatory trademarks as the payday loans commonly found in low-income neighborhoods.

Specifically: Fees that amount to triple-digit interest rates, short repayment periods and the potential to ensnare customers in a cycle of debt.

With a traditional payday loan, for example, a customer might pay $16 to borrow $100. If the loan is due in two weeks, that translates into an annual interest rate of 417 percent.

Since the borrowers who use payday loans are often struggling to get by, it’s common for them to seek another loan by the time of their next paycheck. Critics say this creates a cycle where borrowers continually fork over fees to stay afloat.

Banks say their direct deposit loans are different because they come with safeguards to prevent such overreliance.

Wells Fargo, for example, notes customers can only borrow up to half their direct deposit amount or $500, whichever is less.

Its fees are cheaper too, at $7.50 for every $100 borrowed — although that still amounts to a 261 percent annualized interest rate over the typical pay cycle. The amount of the advance and the fee are automatically deducted from the next direct deposit.

Wells Fargo admits that it’s an expensive form of credit intended only for short term use. But customers can max out their loans continually for up to six months before they’re cut off. Then after a one-month “cooling off” period, they can resume taking advances.

U.S. Bank, which has more than 3,000 branches mostly in the Midwest and West, and Fifth Third Bank, which operates 1,300 branches in the Midwest and South, offer loans with similar terms and restrictions.

“When you’re allowed to be indebted for six billing cycles in a row, that’s not a short-term loan,” says Uriah King, vice president for state policy at the Center for Responsible Lending, an advocacy group based in North Carolina. “They call them short-term loans, but that’s just not how they’re used. And banks know that.”

Even if customers can only borrow half the amount of their next direct deposit, that can be a significant setback if they’re living paycheck to paycheck, King says. They’ll likely need to take another loan to continue covering living expenses.

That idea is supported by a study by the Center for Responsible Lending that found direct deposit loan users relied on them for almost six months of the year. About one out of every four borrowers was a Social Security recipient.

It’s not clear whether the weak economy has increased the use of payday loans. But a group that represents alternative financial services such as payday loans and check cashing, the Community Financial Services Association of America, says that demand for short-term credit has been rising at a steady clip in recent years.

This spring, Regions Financial became the latest major bank to offer the direct deposit loans. The bank, which operates about 1,800 branches in the South and Midwest and Texas, also announced that it would begin offering check cashing and prepaid debit cards in the near future.

The rollout of the products comes at a key juncture for the industry. Banks are under intense pressure to find new ways to squeeze profits from checking accounts in the face of new regulations.

One particularly lucrative revenue source — overdraft fees — was tightened about a year ago under a rule intended to protect consumers. The rule prohibits banks from charging overdraft fees without first obtaining a customer’s active consent for such coverage.

The fees, which are disproportionately incurred by low-income customers, generated an estimated $37 billion in 2009, according to Moebs Services Inc.

Now consumer advocates fear banks will start nudging these same customers toward direct deposit loans.

Another concern is that direct deposit loans are tantalizingly easy to access for customers who need cash in a hurry. Because potential borrowers must already have an account with the bank, there’s no application process and cash can be immediately deposited into checking accounts.

The banks’ main regulator, the Office of the Comptroller of the Currency, says it has received requests for guidance on direct deposit loans and overdraft programs. In June, the agency issued proposed guidelines saying that banks should observe “prudent limitations” and that action should be taken when banks detect “excessive usage” by customers.

The agency does not spell out what constitutes prudent or excessive. But it noted that certain practices have raised supervisory concerns. Among them: the steering of customers who rely on Social Security and other federal benefits toward the loans and a failure to monitor accounts for excessive use.

Representatives for each of the four banks declined to disclose what percentage of its direct deposit loan customers are repeat users. They also declined to disclose how widely the loans are used.

The banks stress that they reach out to customers who show signs of becoming overly dependent by speaking with them about whether another form of credit might be more appropriate.

Wells Fargo also notes that it made changes this year to make the loans more consumer friendly. A spokeswoman for the bank, Richele Messick, said that fees were previously higher at $10 for every $100. Customers could also max out advances continually for a year before the bank cut them off.

Freddie Mac said 37 percent of those people off 30-year loans in a refinancing deal in the quarter chose a 15- or 20-year loan. It was the highest portion of borrowers choosing shorter loans since the third quarter of 2003.

In addition, 55 percent of refinancing homeowners in the quarter with adjustable rate mortgages chose to go with a fixed-rate contract, Freddie Mac said.

While the U.S. Federal Reserve continues to offer historically low interest rates, refinancing consumers are still trimming their expenses.

Fixed-rate loans accounted for about 95 percent of of all refinance loans in the second quarter. People with fixed-rate loans also tend to prefer them over adjustable-rate loans.

“Compared to a 30-year fixed-rate mortgage, the interest rate on 15-year fixed was about 0.8 percentage points lower during the second quarter. For borrowers motivated to refinance by low fixed-rates, they could obtain even lower rates by shortening their term,” said Frank Nothaft, Freddie Mac vice president and chief economist.

Like other cities in Florida, the Orlando market saw tremendous demand from investors during the first half of the previous decade. Some were looking to cash in on the appreciating market through short-term property flipping, while others were buying properties for vacation homes.

Although the market attracted interest from buyers in the Midwest and Northeast, condo developers also marketed developments specifically to foreign buyers, particularly in the United Kingdom, says Jack McCabe, CEO of McCabe Research & Consulting.

“It’s almost like [the British] were setting up another colony in the United States,” McCabe says. Abetted by easy credit, such demand helped send home prices surging by more than 102 percent from 2002 to the market’s peak in 2006. But the subsequent crash has been painful.

The nearly 48 percent drop from the peak through the third quarter of 2009 has pulled 58 percent of single-family home mortgages in Orlando underwater, according to Zillow. And McCabe isn’t optimistic about a quick rebound. “For the condo or condo conversion owner, literally they may carry them out feet first before they ever see that property reach 2006 values,” he says.

Greeley, Colo.

With 45 percent of single-family mortgages underwater, the Greeley, Colo., market has among the higher concentrations of negative equity in the nation. The predicament is rooted in an increase in smaller homes built during the first half of the previous decade that were purchased with risky, subprime mortgages, says Randy Moser, the president of the Greeley Area Realtor Association.

“If you had a 550 credit score, you could maybe even get 110 percent financing [and] roll in your closing costs,” he says. But after many of these buyers began falling behind on their payments, area foreclosures surged, and home prices fell about 15 percent through the third quarter of 2009. “We were probably one of the first counties in the United States that went into the foreclosure mess,” Moser says.

Bend, Ore.

From 2002 to early 2007, home prices in Bend, Ore., jumped by 99 percent, as second-home buyers and retirees were drawn to this community. But after the housing bubble popped and economy eroded, home prices have slumped some 32 percent through the third quarter of 2009. “We are seeing homes that people bought for $2.5 million now selling for under $1 million,” says Kathy Ragsdale, the CEO of the Central Oregon Association of Realtors.

Ragsdale says the initial phase of the downturn was triggered by evaporating demand from second-home buyers. But more recently, as unemployment has surged, many residents have found themselves unable to make their mortgage payments. Today, more than half of the residential property transactions in Bend are distressed sales, Ragsdale says.

“It’s huge when somebody stands up in a meeting and says, ‘I have a home for sale, and by the way, it’s not a short sale,’ ” she says. As of the fourth quarter of last year, roughly 41 percent of single-family home mortgages were underwater, according to Zillow.

Minneapolis-St. Paul

Although this area is far removed from the cities most closely associated with the housing bubble, home prices in Minneapolis-St. Paul inflated significantly in the early part of the previous decade. Real estate values increased nearly 34 percent from 2002 to 2006. Brad Fisher, the president of the Minneapolis Area Association of Realtors, says subprime lending played a key role.

“Outside of the coasts, the Minneapolis-St. Paul area was one of the higher areas [of] subprime loans,” Fisher says. “We have paid a price because of that.” The subsequent 29 percent price decline through the third quarter of 2009 pulled nearly 39 percent of single-family home mortgages underwater by the fourth quarter of 2009, according to Zillow.

Memphis

Home prices in Memphis didn’t surge as aggressively as other markets during the boom. But pockets of subprime mortgages–coupled with a modest slump in prices over the past three years–have created a notable concentration of negative equity. Real estate values increased about 12 percent from 2002 to 2006, but prices then fell nearly 18 percent through the third quarter of 2009.

And as of the fourth quarter of last year, roughly a third of all single-family home mortgages were underwater, according to Zillow. Glenn Moore, the president of the Memphis Area Association of Realtors, argues that the negative equity is concentrated in a small part of the overall market. “It is limited to mostly suburban areas and maybe some areas where there was maybe some predatory lending going on,” Moore says.

Cleveland

Home prices in Cleveland increased 13 percent from 2002 to 2006 but then fell nearly 16 percent through the third quarter of 2009. “There was a little bit of overinvestment in housing, and the economy started weakening,” says Celia Chen of Moody’s Economy.com. “[Cleveland] entered recession before the rest of the U.S., and I think weak economic conditions have pulled down home prices.”

Exposure to subprime lending has also played a role in the real estate market’s decline. Roughly 32 percent of single-family home mortgages were underwater as of the fourth quarter of last year, according to Zillow.

Grand Rapids, Mich.

Real estate values in Grand Rapids, Mich., increased 15 percent from 2002 to 2005 and then fell about 13 percent through the third quarter of last year. As of the fourth quarter of 2009, roughly 29 percent of single-family home mortgages were underwater, according to Zillow. The weakness in the housing market is linked to the area’s deteriorating economy, Chen says.

All of this could influence your financial freedom—not to mention the number of junk-mail solicitations you receive.

Ken Lin, CEO of Credit Karma, a credit-score information website, knew he had a good credit score. But when he recently applied for a new credit card, he was rejected: The lender had flagged him as a higher credit risk because the value of his California home had declined and his mortgage principal wasn’t declining—giving away that he has an interest-only mortgage.

“It’s a lot more than just your credit score today,” he says.

Your credit record still matters, of course. But here are some newer ways lenders and financial-services companies are sizing up your financial behavior and credit-worthiness:

Bank-Depositor Behavior Scores

Fair Isaac, the creator of the widely used FICO (NYSE: FICO – News) credit score, is marketing bank-depositor behavior scores, which are used by banks to assess their own customers.

The scores are based on balances, deposit records and withdrawal activity, says Debb Gordon, a senior principal consultant at Fair Isaac.

Unlike credit scores—which are most affected after payments are late or credit is maxed out—behavior scores can be a leading indicator of credit risk. They also can help banks identify which of their customers might be ripe for additional services and rewards programs and which might need special attention because, for instance, their direct deposits had stopped.

Income Estimation

This business took off earlier this year after the Federal Reserve allowed lenders to use credit bureaus’ income estimates to satisfy new requirements that credit-card applicants show the ability to pay their debts.

The bureaus use credit-record information, such as the size of your credit lines and the age and size of your mortgage, and plug it into models to predict your earnings. Those estimates also may be used to double-check the income you report on credit applications or to determine if you should be preapproved for credit.

You can’t see those estimates. But if you are denied credit because of them, you must be given a chance to provide additional information.

Rent Payments

An estimated 40 million consumers, including young people and people who prefer to pay in cash, have too little credit experience to generate a useful credit score. But they are likely to pay rent or utility bills, which could help credit bureaus better assess their credit-worthiness.

Experian, one of the three major credit bureaus, bought RentBureau—which collects rental-payment data from large property managers—and expects to integrate that information into credit records before the end of the year.

Even if those consumers don’t want credit, that information could help them win better rates from insurers, which may use insurance scores based on credit records, and fatten up thin credit files, which some employers check before making hiring decisions.

Credit bureaus say they also would like to offer data on cellphone payments, but have run into concerns over privacy issues, which may require legislation to untangle.

Collection Triggers

If you owe money, you can run, but you can’t hide. Credit bureaus can now send daily reports to collection companies when a debtor’s financial status changes—say, if new employment information appears or if a debt starts to decline. A drop in credit use would indicate that the consumer has more capacity to pay and a better chance of repaying other outstanding debts.

Home Values

As home values have plummeted and foreclosures have soared in many states, lenders of all stripes have become more cautious, as Mr. Lin found. Using home values as a factor in credit decisions doesn’t appear to be widespread, but it may come into play when someone in, say, Nevada or California applies for a new loan. Of course, it also could work in your favor if you are one of the roughly 25 million Americans who owns a home outright.

Your Wealth

Information about your assets other than homes and cars, which aren’t part of the credit record, may soon play a bigger role in your financial life. With a better sense of a consumer’s balance sheet, lenders might be able to target potential customers better and also have a fuller sense of their likely risk. Equifax, another of the big three credit bureaus, offers financial-service providers an estimate of liquid wealth as part of a financial “suite” of information.

As all of this becomes a widespread practice, those who are prompt and careful in all aspects of their financial life may have more options—and those who have been sloppy with, say, their bank accounts may be penalized for that.

Keep in mind that from mortgages to car loans, your credit history and score matter more than they did prior to the crunch. Rates are at rock-bottom levels for borrowers with top-tier credit — generally credit scores above 720. Before you shop rates, get your credit reports at and check for errors. And buy your credit score from Equifax for $7.95 . That way you can see where you stand before you apply for a loan

Mortgages: Stricter Rules

Mortgage lenders want to make loans now, and they may even bid against one another for your business. But lending standards remain tight, and you must be prepared to produce a mound of paperwork to document your income and assets.

Rates are as low as they were in the 1950s, so going through the motions could pay off. In mid September, the average interest rate for a 30-year, fixed-rate conforming loan — a mortgage of $417,000 or less — was 4.5%, according to HSH Associates, a mortgage-tracking firm. The initial rate for a 5/1 adjustable-rate mortgage (a fixed rate for five years, followed by annual adjustments) was 3.6%.

Fannie Mae, Freddie Mac and the Federal Housing Administration continue to dominate the mortgage market, setting the standards for the loans that lenders make and sell to investors. So lenders strive to dot every i and cross every t when they qualify you.

If you’re buying or refinancing the mortgage on your primary home, you’ll need a minimum down payment of 5% to 10% for a conforming loan or 10% to 15% for a conforming jumbo loan (125% of a metro area’s median home price, up to $729,750). With 20% or more down, you avoid private mortgage insurance, which typically costs 0.5% to 1.5% of your loan amount per year.

Fannie Mae and Freddie Mac allow a minimum credit score of 620 if you have at least 25% equity in the property or a score of 660 with equity of less than 25%; you’ll get the best rate if your score exceeds 720. The FHA will soon require a minimum credit score of 580 to qualify with a down payment of 3.5%, but FHA lenders often impose a higher minimum score of 670.

In addition to your credit, lenders will also scrutinize your ability to pay, starting with your ratio of debt to income. Monthly housing expenses (principal, interest, taxes, hazard insurance, private mortgage insurance and association fees) shouldn’t account for more than 28% of gross monthly income. Total debt shouldn’t exceed 36% of gross income, but in some cases lenders stretch the maximum to 45%.

Chris Bennett, a loan officer with HomeServices Lending, in Charlotte, N.C., says that he surprises borrowers “all the time” with preapproval of their loan when they aren’t expecting it. Even people with lower credit scores may qualify if they have stable employment, a history of paying rent and credit lines on time, and money in the bank or in a retirement account.

However, Bennett also counsels some borrowers to delay their home purchase long enough to improve their credit score, eliminate debt, get a raise and save more money. They might earn a better interest rate, improving their buying power. Plus, he says, “it’s not good to lay out every bit of cash you have if you won’t have money for a rainy day.”

Prove it. At a minimum, you must supply your pay stubs for the past 30 days and W-2 forms for the past two years. Lenders will want to see bank, retirement-account and investment statements for the past 60 days. Bennett says three types of borrowers will face additional requirements:

If you’re self-employed or if 25% or more of your income is from commissions or bonuses, you must provide two years of tax returns. Lenders will average your income over the past two years to figure your debt-to-income ratio.

If you have pursued opportunities to reduce your taxable income, you may not have sufficient income to qualify even though you may have a lot of money in the bank. Community banks, credit unions and other lenders that typically keep their loans on their own books are the best bet for borrowers with low incomes and high assets, says Bennett.

If you want to rent out your home and buy a new one, you must provide a signed lease for a minimum of 12 months. You can use only 75% of rental income to help qualify for the mortgage, and you must have at least 30% equity in your former home.

If you and your spouse are relocating for work and your spouse doesn’t have a job yet, you must qualify for the loan based on one income unless your spouse has a signed agreement with an employer to begin work within 45 days of closing the loan.

Even if you qualify, you can throw a monkey wrench into the final loan approval if you take on new debt that could affect your credit score or your debt-to-income ratio. Some lenders pull another credit report just before closing. Another possible sticking point is the appraisal. Overly generous appraisals helped to fuel the housing bubble.

Now, miserly ones may thwart your closing, says Guy Cecala, publisher of the newsletter Inside Mortgage Finance. Lenders will estimate the value of your home conservatively, and appraisers are generally following suit, especially if the local market is in flux.

State leaders signed off last week on the $600 million line from four lenders led by Minneapolis-based U.S. Bank. Finance officials say it’s a necessary protection as Minnesota’s cash sinks to worrisome lows.

The credit line could wind up costing more if the state has to borrow any or all of the money, but finance officials wouldn’t offer any estimate of how much. Similar to a home equity loan, a credit line’s full cost depends on how much is borrowed and what interest rates are when it’s tapped.

Details of the state’s arrangement had been kept confidential, but AP obtained legal documents, charts and other correspondence related to the deal through a public records request.

Democrats have blamed Pawlenty’s long-standing opposition to tax increases for the state’s dwindling cash balance. The Republican governor has maintained the state’s tax burden and spending are too high, and the cash flow difficulty is due largely to the recession.

Among the credit line documents was a covenant signed by Pawlenty pledging Minnesota’s taxing authority as collateral, meaning that in a worst-case scenario the state would have to raise property taxes to make good on what it owes.

The state already has paid the banks $635,000 to set up the fund and will face $937,000 in fees if it doesn’t use the money before the contract expires next summer. The state also expects to pay roughly $100,000 to a finance consultant who helped vet proposals for the credit line.

Minnesota hasn’t resorted to short-term borrowing since 1984. While it has a balanced budget now – and is expected to end the next fiscal year with a positive balance – the state doesn’t always collect and spend dollars at the same rate.

The goal is to keep the general treasury’s daily balance above $400 million, but Minnesota officials expect it to start slipping below that in late October. By mid-December, the state’s checking account will be at just $109 million.

At that level, Minnesota Management and Budget Commissioner Tom Hanson said Thursday he’d be more likely to tap into the credit line. He said there isn’t a certain point at which he would borrow, and he says he hasn’t been pressured by Pawlenty – who has attacked Democrats in Washington over federal spending and debt – to avoid it. An AP request for written correspondence between Hanson and Pawlenty’s top aides turned up nothing.

Pawlenty leaves office in January and is considering a run for president.

He has downplayed the prospect of having to borrow and Hanson said it’s still not a sure thing. Hanson said even if it happens, he “would be very surprised and shocked” if Minnesota draws on the entire $600 million.

More federal health money is due to arrive in Minnesota beginning in January, but emergency aid in response to recent flooding in southern Minnesota could add to the near-term cash strain.

Hanson said the bank line offers the state security and will protect Minnesota’s good rating with Wall Street bond houses. Those ratings make it cheaper to borrow money for construction projects.

Pawlenty’s budget team has taken other steps to fend off a cash shortage. They have delayed hundreds of millions of dollars more in payments to schools and public universities and have held back tax refunds to businesses. As a result, some school districts have had to pay interest on short-term borrowing of their own.

Senate Finance Committee Chairman Dick Cohen said it all stems from a budget that’s been patched together amid Pawlenty’s refusal to consider new taxes. The new costs to the state trouble him.

“The size of that in it of itself is not huge,” said Cohen, a St. Paul Democrat. “On the other hand, we don’t have extra money. We could use that $1.6 million in many different and better ways.”

Minnesota isn’t the only state looking to a bank for a lifeline. Last December, Pennsylvania took out its first short-term loans since 1998 when it borrowed $800 million. A couple of months earlier, Arizona made its first-ever use of short-term notes.

In February, Moody’s Investor Service documented $25.8 billion in short-term borrowing by states in the last fiscal year. It was the most in five years, and the firm predicted more of the same into this fiscal year.

Under the Minnesota contract, any debt must be repaid by the end of June. Hanson and his staff raised the possibility the credit line could be terminated early if things look up.

Still, some involved in setting up the credit line appeared to be considering worst-case scenarios.

According to one e-mail exchange, U.S. Bank, the winning bidder, came to the state with a simple question: Whether Minnesota law allows the state to file for bankruptcy. The state, citing an expired deadline for questions from bidders, didn’t answer.

“I don’t see how it could ever happen in a state like ours,” Hanson told AP.

State leaders signed off last week on the $600 million line from four lenders led by Minneapolis-based U.S. Bank. Finance officials say it’s a necessary protection as Minnesota’s cash sinks to worrisome lows.

The credit line could wind up costing more if the state has to borrow any or all of the money, but finance officials wouldn’t offer any estimate of how much. Similar to a home equity loan, a credit line’s full cost depends on how much is borrowed and what interest rates are when it’s tapped.

Details of the state’s arrangement had been kept confidential, but AP obtained legal documents, charts and other correspondence related to the deal through a public records request.

Democrats have blamed Pawlenty’s long-standing opposition to tax increases for the state’s dwindling cash balance. The Republican governor has maintained the state’s tax burden and spending are too high, and the cash flow difficulty is due largely to the recession.

Among the credit line documents was a covenant signed by Pawlenty pledging Minnesota’s taxing authority as collateral, meaning that in a worst-case scenario the state would have to raise property taxes to make good on what it owes.

The state already has paid the banks $635,000 to set up the fund and will face $937,000 in fees if it doesn’t use the money before the contract expires next summer. The state also expects to pay roughly $100,000 to a finance consultant who helped vet proposals for the credit line.

Minnesota hasn’t resorted to short-term borrowing since 1984. While it has a balanced budget now – and is expected to end the next fiscal year with a positive balance – the state doesn’t always collect and spend dollars at the same rate.

The goal is to keep the general treasury’s daily balance above $400 million, but Minnesota officials expect it to start slipping below that in late October. By mid-December, the state’s checking account will be at just $109 million.

At that level, Minnesota Management and Budget Commissioner Tom Hanson said Thursday he’d be more likely to tap into the credit line. He said there isn’t a certain point at which he would borrow, and he says he hasn’t been pressured by Pawlenty – who has attacked Democrats in Washington over federal spending and debt – to avoid it. An AP request for written correspondence between Hanson and Pawlenty’s top aides turned up nothing.

Pawlenty leaves office in January and is considering a run for president.

He has downplayed the prospect of having to borrow and Hanson said it’s still not a sure thing. Hanson said even if it happens, he “would be very surprised and shocked” if Minnesota draws on the entire $600 million.

More federal health money is due to arrive in Minnesota beginning in January, but emergency aid in response to recent flooding in southern Minnesota could add to the near-term cash strain.

Hanson said the bank line offers the state security and will protect Minnesota’s good rating with Wall Street bond houses. Those ratings make it cheaper to borrow money for construction projects.

Pawlenty’s budget team has taken other steps to fend off a cash shortage. They have delayed hundreds of millions of dollars more in payments to schools and public universities and have held back tax refunds to businesses. As a result, some school districts have had to pay interest on short-term borrowing of their own.

Senate Finance Committee Chairman Dick Cohen said it all stems from a budget that’s been patched together amid Pawlenty’s refusal to consider new taxes. The new costs to the state trouble him.

“The size of that in it of itself is not huge,” said Cohen, a St. Paul Democrat. “On the other hand, we don’t have extra money. We could use that $1.6 million in many different and better ways.”

Minnesota isn’t the only state looking to a bank for a lifeline. Last December, Pennsylvania took out its first short-term loans since 1998 when it borrowed $800 million. A couple of months earlier, Arizona made its first-ever use of short-term notes.

In February, Moody’s Investor Service documented $25.8 billion in short-term borrowing by states in the last fiscal year. It was the most in five years, and the firm predicted more of the same into this fiscal year.

Under the Minnesota contract, any debt must be repaid by the end of June. Hanson and his staff raised the possibility the credit line could be terminated early if things look up.

Still, some involved in setting up the credit line appeared to be considering worst-case scenarios.

According to one e-mail exchange, U.S. Bank, the winning bidder, came to the state with a simple question: Whether Minnesota law allows the state to file for bankruptcy. The state, citing an expired deadline for questions from bidders, didn’t answer.

“I don’t see how it could ever happen in a state like ours,” Hanson told AP.