Too Much Debt To Buy Or Refinance A Home? Here is your plan
When you apply for a mortgage, the lender will make sure you can afford it.
To do this, you need to compare your debt and income – officially known as the debt-to-income ratio, or DTI.
Getting a mortgage could be difficult if your DTI is too high. However, there are ways to get the numbers working even with a higher DTI.
Review your high DTI credit options. Start here (3.11.2021)
In this article (continue to …)
What is the Debt-Income Ratio (DTI)?
When applying for a mortgage loan, lenders want to know that homebuyers are not taking on more debt than they can afford. Your debt-to-income ratio tells lenders how much money you are spending relative to your income. This will help you determine how high a mortgage payment you can comfortably afford.
DTI is expressed as a percentage, which is determined by dividing your minimum monthly debt payments by your gross monthly income (pre-tax income).
For example, if you make $ 5,000 per month before tax and owe $ 1,800 per month on student loans and minimum credit card payments, your DTI is 36% ($ 1,800 / $ 5,000 = 0.36).
Lenders consider two types of DTI when applying for a home loan.
Front-end DTI is limited to housing costs and includes your potential monthly mortgage payment, homeowner insurance premiums, and property taxes.
Back-end DTI is more commonly used on a home loan application as it provides an overview of your monthly financial wellbeing.
Back-end DTI looks at all of your minimum recurring monthly payments, including front-end DTI plus all monthly debts from credit cards, student loans, debt consolidation loans, auto loans, and personal loans.
Your debt-to-income ratio usually doesn't include basic household expenses or monthly bills for utilities, groceries, restaurants, and entertainment. Instead, DTI focuses on minimal monthly payments from regularly recurring credit lines.
Check your eligibility for the home loan. Start here (3.11.2021)
What is the maximum DTI for a home loan?
Note that each mortgage lender may have their own eligibility requirements and maximum DTI. In general, however, a good debt-to-income ratio is 36% or less and not more than 43%.
Here are the common maximum DTI rates for large loan programs:
Conventional Loans (supported by Fannie Mae and Freddie Mac): 45% to 50%FHA loans: 50%VA loan: No maximum DTI given, but borrowers with a higher DTI may be subject to additional testingUSDA loan: 41% to 46%Jumbo Loans: 43%
How to get a loan with a high debt-to-income ratio
A high debt-to-income ratio can result in a mortgage application being rejected. Fortunately, even with high debts, there are ways to get approval.
1. Try a more forgiving program
Different programs have different DTI limits. For example, Fannie Mae sets his maximum DTI at 36 percent for those with smaller down payments and lower credit scores. Forty-five is often the limit for those with higher down payments or credit scores.
FHA loans, on the other hand, allow a DTI of up to 50 percent in some cases, and your credit doesn't have to be top notch.
Likewise, USDA loans are designed to encourage home ownership in rural areas – in places where income may be lower than in densely populated employment centers.
Perhaps the most lenient of them all are VA loans, which are zero-down funding reserved for current and former military personnel. The DTI for these loans can be quite high if justified by high residual income. If you are lucky enough to be eligible, a VA loan is probably your best option for heavily indebted borrowers.
2. Restructure your debt
Sometimes refinancing or restructuring debt can reduce your odds.
The repayment of the student loan can often be extended over a longer period of time. You may be able to pay off credit cards with a personal loan at a lower interest rate and lower payment. Or refinance your car loan with a longer term, a lower interest rate, or both.
If you transfer your credit card balance to a new account with a zero percent introductory rate, you can cut your payment for up to 18 months. This will help you qualify for your mortgage and pay off your debt faster.
If you recently restructured a loan, keep all of your records handy. The new account may not show up on your credit report for thirty to sixty days. Your lender will need to review new loan terms in order for you to benefit from lower payments.
3. Pay off accounts (the correct ones)
When you can repay an installment loan so that there are fewer than ten payments left, mortgage lenders usually cross that payment off your quotas.
Or you can reduce your credit card balance in order to lower your monthly minimum.
However, you want to get the biggest bang for your buck. You can do this by dividing each credit card balance by the monthly payment and then paying off the ones with the highest payment-to-balance ratio.
For example, let's say you have $ 1,000 to pay off the following debts:
balancepaymentBalance of payments relationship$ 500 $ 459.0% $ 1,500 $ 302.0% $ 2,000 $ 502.5% $ 3,000 $ 1,505.0%
The first account has a payment equal to nine percent of the balance – the highest of the four accounts – so this should go first.
The first $ 500 will remove a $ 45 payment from your odds. You would use the remaining $ 500 to bring the fourth balance down to $ 2,500, which will decrease the payment by $ 25.
The total payment reduction is $ 70 per month, which in some cases could turn a denial of credit into an approval.
4. Cash-out refinancing
If you are trying to refinance but your debt is too high, a cash out refinance may help you eliminate it.
The extra money you take on the mortgage is earmarked to pay off debts, which will reduce your DTI.
When you refinance a debt consolidation loan, checks are made directly to your creditors. You may need to close these accounts as well.
5. Get a lower mortgage rate
One way to reduce your odds is to cut the payment on your new mortgage. You can do this by “buying down” the interest rate – paying points to get a lower interest rate and payment.
Shop carefully. Choose a loan with a lower starting rate, such as a 5-year adjustable-rate mortgage instead of a 30-year fixed loan.
Buyers should consider asking the seller to contribute to the closing costs. The seller can lower your price instead of lowering the house price if they give you a lower payment.
If you can afford the mortgage you want but the numbers don't work for you, options are there. A skilled mortgage lender can help organize your debt, tell you how much lower it needs to be, and work out the details.
Check your loan options. Start here (3.11.2021)
How to Calculate Debt to Income Ratio
Lenders value low DTI, not high income. Your DTI compares your total monthly debt payments to your pre-tax income.
To calculate your DTI ratio, add your monthly debt obligations and then divide that number by your gross monthly income.
DTI does not include monthly bills for basic household expenses such as utilities, health insurance premiums, food, or entertainment.
Instead, your DTI ratio includes the type of debt on credit lines or housing expenses such as monthly mortgage payments, homeowner insurance premiums, HOA fees, auto loans, personal loans, student loans, and credit card debt.
The total monthly debt includes housing-related expenses such as
Suggested Monthly Mortgage Payment Property taxes and HOA fees for home insurance if applicable
The lender will also add the required minimum payments for other debts.
Credit Card DebtCar LoansStudent DebtDebt Consolidation LoansUnemployment and Child Support
When you add up the debt, do not consider the total loan amount, just the minimum monthly payments.
Your gross monthly income is the total of your monthly pre-tax income.
Formula for the ratio of debt to income
Divide your monthly payments by your gross monthly income, then find your DTI percentage by multiplying the resulting number by 100.
Monthly debt payments / gross monthly income = X * 100 = DTI ratio
For example, your income is $ 10,000 per month. Your mortgage, property tax, and home insurance is $ 2,000. Your car and credit card payments add up to an additional $ 1,000. Your DTI is 30 percent.
living costsDebt paymentsincomeDTI$ 2,000 $ 1,000 $ 10,00030% $ 1,750 $ 800 $ 8,00032% $ 1,500 $ 200 $ 6,00028%
Lenders do not favor applicants who make more money. Instead, they approve those with a fair ratio of monthly debt to income.
In the examples above, the applicant who earns the least is best qualified for a loan.
Check your eligibility for the home loan. Start here (3.11.2021)
Frequently asked questions about a loan with a high DTI ratio
What is the highest debt to income ratio to qualify for a mortgage?
According to the Consumer Finance Protection Bureau (CFPB), 43% is often the highest DTI a borrower can have and still get a qualifying mortgage. However, depending on the loan program, borrowers can qualify for a mortgage loan with a DTI of up to 50% in some cases.
What is a good debt to income ratio?
While lenders and loan programs each have their own DTI requirements; Typically a good DTI is 36% or less.
What if my debt-to-income ratio is too high?
Borrowers with a higher DTI will have difficulty getting approved for a home loan. Lenders want to know that you can afford your monthly mortgage payments, and too much debt can be a sign that you will miss a payment or not get the loan. If you find yourself in this situation, try paying off or restructuring some of your larger debts before applying for a home loan.
How To Lower Your Debt-To-Income Ratio
A sensible approach can help reduce your DTI before you start buying a home. Increasing the monthly amount on existing debt, avoiding new debts, and using less of your available credit can lower the DTI. By recalculating your DTI ratio every month, you can measure your progress and stay motivated.
Debt Level vs. Borrowing
Some home buyers may confuse the debt-to-income ratio with the credit utilization rate, also known as the debt-to-limit ratio and the debt-to-credit ratio. Your credit utilization shows how much of your available credit (credit limit) you are drawing on. For example, if you have a credit limit of $ 100,000 on multiple credit cards and your current balance is $ 5,000, your credit utilization is 5%.
What are today's tariffs?
Mortgage rates are low and this is an ideal time to get an interest rate quote. Low interest rates make it easier to qualify, even with heavy debt.
Check with a lender to see if you qualify for a mortgage at your current DTI and what interest rate you may be eligible for.
Confirm your new price (November 3, 2021)