By: Christy Brewer
Christy Brewer, The DIFF Critic, has been thinking a lot about what goes into each person’s mortgage terms — mortgage rate, payment, how much to borrow. Today she shares what’s on her mind here on the Quizzle blog.
Most chatter around getting a mortgage seems to be about your credit score. Your credit score is a quick way for lenders (including credit card companies and other creditors) to see if you’re good at paying off debt, for sure. Ann-Marie is a great credit score coach – she’s shown us the difference between good credit and bad credit and great ways to improve your credit score.
But it’s time to look at debt in another light: your total debt load.
Your “debt-to-income” ratio, or DTI for short, is a way for lenders to look at how much you must pay each month toward your debts versus your total monthly income. The idea is to get a feel for the percentage of your available income that is already earmarked for paying off existing debts.
If you’re considering buying a home, this is a very important number, since it can limit how much home you can buy. Generally, most mortgage guidelines want you to stay within 28% of your income for housing expenses, and 36% of your income for all other regular monthly payments. Utilities don’t fall into either of these categories.
Say, for example, your annual household income is $60,000. That’s $5,000 per month, before taxes. (Don’t forget while we’re calculating this stuff that there are still taxes to be paid!)
With that $60,000 of household income, mortgage lenders will likely allow you $1,400 to pay for the mortgage payment, including principal and interest, taxes, insurance, PMI and homeowners association dues.
But, if you carry more than $1,800 a month in other debts — car loans, credit card payments, student loans, child support, or other regular debt payments -– that cuts into your ability to pay $1,400 a month on your housing. Most lenders will lower how much they will lend you, and some may not approve you.
Those DTI ratios can be higher on FHA loans, and there are other types of mortgages you could consider that have slightly relaxed guidelines. But, you’ll pay more in interest rate. The smartest thing to do is to focus on paying down your debt so that you can improve your overall financial picture, and get smart home loan financing when it’s finally time to buy that house.
If you want more information on DTI, start with this basic explanation from Wikipedia. And, remember, Quizzle looks at your DTI as well when analyzing your situation for the Quizzle Scores. Never pass up free help from an expert!