Managing your Debt-to-Income Ratio
Your debt-to-income ratio, or DTI, is a critical component when it comes to evaluating a mortgage application. While the exact approach will vary depending on the loan program you are pursuing, very few allow borrowers to exceed a DTI of 50 percent. In many cases, a DTI above 43 percent is likely to seriously limit an applicant’s chance for approval.
DTI is determined by adding up housing expenses (mortgage payment, taxes, and insurance) to other monthly debt obligations (auto loan payments, minimum credit card payments, student loans, child support, and similar expenses). As mentioned, this total will need to account for less than 43 percent of the gross monthly income for most borrowers.
Have a Repayment Strategy
Homebuyers with debt payments that will exceed the minimum DTI will likely not be approved for a mortgage until they can reduce it to the required level. However, even applicants who meet the requirements can benefit from better interest rates and more flexibility by lowering their DTI.
If you have had a mortgage application declined due to a high DTI, or plan on applying for a mortgage soon, be sure you have a plan to minimize your debt-to-income ratio.
Although prioritizing high-interest debt payments offers the most savings, another approach may have a more immediate impact on DTI. Dividing the balance of a debt by the minimum monthly payment will gauge its contribution to your DTI and provide additional insight when creating a plan toward your goal. Focusing on these high bill-to-balance debts and paying those off first may provide the fastest path to a mortgage.
Whether you’re a current or future homeowner, it’s helpful to remain mindful of your financial decisions. Keeping your DTI in a reasonable range starts with a deliberate approach to financing. Overusing credit cards and failing to make payments in full is one of the most common ways for DTI to get out of hand.
Shorter terms for auto loans can be an attractive way to save on interest, but will also result in larger payments that boost your DTI. Remember that opting to pay more than the minimum can often provide similar savings while minimizing the impact to your debt-to-income ratio. Similarly, zero percent interest offers for purchases you might otherwise pay in full can seem like a low-risk way to hold onto cash. However, these payment plans will play a role in your mortgage or refinancing plans if they are still active when applying.
Don’t Ignore the Income
Although debt is often the part of DTI that gets the most attention, don’t forget about the other half of the ratio – income. An increase in your monthly paycheck can provide the most dramatic effect on DTI.
Attaining a better-paying position or adding secondary income through additional part-time employment will immediately lower your DTI. It will also increase your ability to pay down existing debt, which could create an exponential improvement to your debt-to-income ratio.
The experts at Open Mortgage have put all the mortgage resources you’re looking for in one place, at OpenMortgage.com. Visit today or call to speak with a representative about your mortgage options and build a plan for your future as a homeowner.