Is Your Debt-to-Income Ratio Mortgage Loan Ready?
A DTI ratio is a personal finance measure that compares the amount you owe versus your overall income. mortgage lenders, use this debt to income ratio in order to measure your ability to manage the payments you make each month and repay the money you have borrowed.
When you are getting prepared for taking on a mortgage you have to get your fiscal house in order. One way to tell if your owed amount is out of proportion with your income is when you are not able to keep up with your credit payments like credit cards, car payments and consumer loans. If you are just making the minimum payments and you take on a mortgage loan you may end up very house poor.
When calculating your DTI, add up all your deficit payments that you make each month. That means anything that is considered a debt that requires a monthly recurring payment that has interest being applied to it. Rent or your current mortgage payment, property taxes and private mortgage insurance or condo fees.
Next, divide your monthly deficit payments total by your income before taxes. Multiply that number by 100 to get your debt to earnings amount as a percentage
Your monthly deficits add up to $2,000 and your Gross income is $6,000. Your debt to income ratio would be 33% ($2,000/$6,000=.33 x 100 = 33%)
If your gross income was $5000. Your deficit to income ratio would increase to 40% making you ineligible for getting an approved mortgage.
Why Does Debt-To-Income Ratio Matter?
Lenders pay very close attention to how much debt their consumers can take on before the consumer runs into financial problems. The lenders use these guidelines to set lending limits. For most lenders and big banks their preferred maximum DTI is 36%. Some lenders are willing to go to 43% but it is rare and usually only given out to high income earners with a very high credit score.
What are some of the ways you can lower your DTI?
- Consider taking on a consolidation loan to get your consumer debts in check with one payment at a lower interest rate. Then make extra payments on the loan when you can.
- Avoid taking on new debts. Pay with cash as much as you can.
- Put off any large purchases until you have more savings.
Consider doing all of this at least 12 to 24 months prior to buying your home. Recalculate your DTI every 6 months to see if you are making progress. This is a great way to show to lender and yourself that you are fiscally responsible and able to support the mortgage payments when you’re ready to start the loan application.
Recalculate your debt to income ratio monthly to see if you’re making progress. Watching your DTI ratio fall can help you stay motivated to keep your debt manageable. Having healthy finances will ease the stress that will come with making the largest purchase of your life and you will have peace of mind knowing you can manage your finances.