Applying for a home loan? That debt-to-income ratio is confusing for someone with a good credit rating. You think with a 720 credit score you are automatically qualified for a loan. If your debt to income ratio is out of balance, you will not qualify. This blog will show you how to improve your debt-to-income ratio now.
The type of loan you obtain, conventional loans, or government loans, all use the ratios as an important factor in making their determination.
What is the debt to income ratio? Take all of your debt from car payments to your expected mortgage payments. Everything that shows on the credit reports. At the same time add up all provable income e.g. pay stub, interest income, investment income, and all sources.
With those two totals, you can calculate your debt-to-income ratio. If your gross monthly income is, for example, $5,000 before anything is taken out of your income (taxes, etc.), and your monthly debt obligations are $2,000. Divide your debt into your income. Your debt to income ratio in this example is 40%.
What is a good debt-to-income ratio?
The recommended threshold is between 40% and 50%. In the example above, the person with a good credit score would qualify for a loan. The $2,000 above included forecasted interest, principal, taxes, insurance, HOA, and PMI/MIP. Let's break down the $2,000.
Your total debt for credit cards and other payments that appear on your credit report amount to $400 per month. The remainder of $1,600 covers the items listed above, your housing expense. $1,600 is what you have to spend on your new home each month to cover those obligations.
Now you know how much house you can afford
Assuming that the amount of house you can afford is lower than your expectations, there are some things you can do to fix the ratio issue. Let's tackle each of them and then you can reenter the data and see how things have changed. The idea here is to allow you to buy a house with a higher selling price.
Monthly payments include anything that shows on the credit reports including monthly debts, personal loans, child support, and any other financial obligations. Try to lower these amounts. Can you pay off any of your current debt?
It's all about reducing your monthly expenses and the total amount of debt you have. Try to get your monthly bills reduced. Pay off anything you can which will put you in a better position to lower your debt. Lower your credit utilization rate which is done by paying down cards to lower than 10% of available credit.
Actions you take now can affect your ability to buy what you want
Don't wait until the day you decided to apply for a mortgage before taking the steps outlined here. This is a long process. We recommend you start at least one year from the date you want to apply for a mortgage loan. Keep at it. Your focus on all of the elements above is required to ensure the best outcome.
Please contact us if you need more information about any aspect of buying a home (or selling). We can make referrals to lenders that use these formulas. Contact us at connect@loganandersonllc.com or call at 228-215-3234 or LoganAndersonllc.com
