Calculating debt ratio is one of the key elements in getting a mortgage. The formula is basic math: total monthly payments divided by total income (payments/income) When you apply for a mortgage, you’ll need to meet maximum DTI requirements so your lender knows you’re not taking on more debt than you can handle. Lenders prefer borrowers with a lower DTI because that indicates less risk that you’ll default on your loan.

One important factor to take into consideration is how much you qualify is different than how much you can afford. Mortgage underwriters will calculate the debt-to-income ratio on how much you qualify for a mortgage. However, you need to do your own calculations and determine how much house you can afford.

Mortgage underwriters will only take debts that report on your credit report into consideration as well as your proposal. housing payment (P.I.T.I.). Underwriters will not take your personal expenses into consideration such as utilities, educational expenses, maintenance, insurance, food, entertainment expenses, childcare, elderly care, and other expenses.

How do lenders and banks calculate debt to income ratios? How does Debt ratio impact approval of a mortgage? How do I know if my debt ratio is too high? These are all common questions I get when going through the approval process with my clients.

Examples of Debts That Are Typically Included in DTI:

• Your rent or monthly mortgage payment
• Any home owners association (HOA) fees that are paid monthly
• Auto loan payments
• Student loan payments
• Child support or alimony payments
• Credit card payments
• Personal loan payments

Expenses Should Be Left Out of Your Minimum Monthly Payment Calculation:

• Utility costs
• Health insurance premiums
• Transportation costs
• Savings account contributions
• 401(k) or IRA contributions
• Entertainment, food and clothing costs

Why do Lenders Have Different Guidelines? What Are Overlays?

Overlays are the pesky additional guidelines that lenders place when evaluating the risk. Some lenders stick with the guidelines that are outlined in the Handbooks for:

1. Conventional lending – Fannie Mae
2. FHA, USDA  VA –  Freddie Mac

Some lenders are more flexible. It is Where it gets tricky is that each lender and program has different guidelines for the max debt ratio. That is why it seems like there is conflicting information. Here are the common maximum DTI ratios for Conventional loan programs:

• Conventional loans: 43% to 50%
• FHA loans: 45% to 50% can go up to 56.99%
• VA loans: No max DTI specified- (Ideally under 55% but can go up to 65% in some cases)
• USDA loans: 41% to 46%
• Jumbo loans: 43%

Lenders and banks can decide whether to adhere strictly to the guidelines or allow for any % of debt ratio that receives an Approval for the Automated Underwriting System (AUS). I have been in the industry for over 18 years. In my time I have seen approvals of FHA loans up to 56.99% I have personally closed a VA loan with over 63% debt ratio.

Another big factor in this debt ratio topic is how the lenders/underwriters/originators calculate your monthly payment. This varies greatly within the industry. The reason for these variances is because there are several interpretations of how to calculate minimum monthly payments when there is not a payment reporting to your credit report.

When a client comes to me with “high” debt ratio the accounts I usually focus on are the ones I know will be interpreted differently:

Student loans

there are several ways to calculate student loans depending on the program as well as type of the student loan:

Standard repayment -Extended Repayment-Graduated repayment-Income-based repayment- this is a common choice for many of my clients, for lenders to use this payment the payment has to be reporting or added to the credit report.

Charged off accounts

This is one of the most misinterpreted guidelines in my opinion. According to basic guideline charge off accounts should not be counted in the debt ratio. (but they are A LOT)

Medical collections

not to be calculated in ratio per guidelines- again a very common discrepancy in the industry.

Collection accounts

vit depends on the program but in general if the total is more than 2k than you have to apply a 5% payment to each account and affect debt ratio. My advise is to set up a small min payment with collection company if possible to be able to use that amount if the ratios are tight.

Calculating Payments & Verifying Accounts

After all payments have been calculated and accounts verified, if there is still a higher than desirable ratio some of these options can help:

Pay off debt: To make the most impact, prioritize the debt with the highest monthly payment. Another strategy is to start by paying off the smallest accounts this can also boost your credit score which can in turn affect your mortgage rate.

Restructure your loans: Seek out options for lowering the interest rate on your debt or attempt to lengthen the duration of the loan through refinancing options.

If you think you can afford the mortgage you want but your DTI is above the limit, a co-signer might help solve your problem. Unlike with conventional loans, borrowers can have a relative co-sign an FHA loan and the co-signer won’t be required to live in the house with the borrower. The co-signer does need to show sufficient income and good credit, as with any other type of loan.

There are also a few programs that are now available that require no debt ratio calculation. It goes without saying that it is extremely important to have a seasoned Mortgage Loan Originator review your mortgage application before you give up on your dreams or push them off. There are hundreds of programs and guidelines to each of those programs. Knowledge and access to those programs are what set our team apart from the rest of the industry.

Debt To Income Ratio Caps On Loan Programs

Every home mortgage program has its own maximum debt-to-income ratio caps with the exception of VA loans. VA loans have no maximum debt-to-income ratio caps as long as you can get an approve/eligible per an automated underwriting system (AUS). Normally, you can get an AUS approval with high DTI on VA loans as long as you have a strong residual income  The debt to income ratio often referred to as DTI, is the percentage of your gross income that goes towards paying your fixed monthly debts.

Mortgage underwriters use the debt-to-income ratio to determine how much of a mortgage you can qualify for and borrow. One of the biggest hurdles in qualifying for a mortgage is having a high debt-to-income ratio. This holds especially true for borrowers with high student loan debt. In this article, we will discuss and cover the understanding of debt to income ratio when qualifying for a home mortgage.

What are Mortgage Underwriting Ratios?

Mortgage underwriting ratios are the guidelines that lenders use to determine how much of a mortgage loan you can afford. There are two types of ratios that lenders look at: front-end and back-end. The front-end ratio is your monthly housing expenses divided by your monthly income. The back-end ratio is your monthly debt payments divided by your monthly income.

Why Do Lenders Use Mortgage Underwriting Ratios?

Lenders use mortgage underwriting ratios to evaluate your ability to make monthly mortgage payments and to cover other debts you may have. By understanding these ratios, you can get a better sense of how much home you can afford.

How Do Mortgage Underwriting Ratios Work?

The front-end ratio is the most important of the two ratios. This is because it directly impacts your ability to make your monthly mortgage payments. Your monthly housing expenses include your mortgage payment, property taxes, and insurance. To calculate your front-end ratio, simply divide your monthly housing expenses by your monthly income.

The back-end ratio is also important but to a lesser extent. This is because it measures your ability to cover all of your debts, not just your mortgage payments. Your monthly debt payments include your mortgage payment, car loan payments, credit card payments, and any other debts you may have. To calculate your back-end ratio, simply divide your monthly debt payments by your monthly income.

What Do Mortgage Underwriting Ratios Tell Lenders?

Mortgage underwriting ratios tell lenders two things: first, how much of a mortgage loan you can afford; and second, how likely you are to default on your loan. The front-end ratio is the most important factor in determining how much of a mortgage loan you can afford. This is because it directly impacts your ability to make your monthly mortgage payments. The back-end ratio is also important but to a lesser extent. This is because it measures your ability to cover all of your debts, not just your mortgage payments.

What Are the Ideal Mortgage Underwriting Ratios?

There is no one-size-fits-all answer to this question. The ideal mortgage underwriting ratios will vary from lender to lender. However, most lenders prefer front-end ratios of 28% or less and back-end ratios of 36% or less.

How Can I Improve My Mortgage Underwriting Ratios?

There are a few different ways you can improve your mortgage underwriting ratios. One way is to increase your income. Another way is to reduce your monthly housing expenses. You can do this by shopping around for a more affordable home. Finally, you can try to pay off some of your debts so that your back-end ratio improves.

What Are the Consequences of Having High Mortgage Underwriting Ratios?

If you have high mortgage underwriting ratios, it means that you are a higher-risk borrower. As a result, you may have to pay a higher interest rate on your loan. You may also be required to make a larger down payment. In some cases, you may not be approved for a loan at all.

What Are the Consequences of Having Low Mortgage Underwriting Ratios?

If you have low mortgage underwriting ratios, it means that you are a lower-risk borrower. As a result, you will likely get a lower interest rate on your loan. You may also be able to get away with making a smaller down payment.

Are There Any Other Factors That Lenders Consider When Underwriting a Mortgage Loan?

In addition to your mortgage underwriting ratios, lenders will also consider your credit score, employment history, and debt-to-income ratio. They will also look at your assets and liabilities.

What Is the Difference Between a Pre-Qualification and a Pre-Approval?

A pre-qualification is an estimate of how much you can afford to borrow. A pre-approval is a commitment from a lender to lend you a certain amount of money. A pre-qualification is based on information that you provide to the lender, such as your income, debts, and assets. A pre-approval is based on information that the lender obtains from you, such as your credit report and employment history.

A pre-qualification is not as strong as a pre-approval. This is because a pre-approval is based on information that the lender has verified.

What Is the Difference Between a Mortgage Loan and a Home Equity Loan?

A mortgage loan is a loan that is used to purchase a property. A home equity loan is a loan that is secured by the equity in your home. A mortgage loan is paid back over a period of time, typically 15 or 30 years. A home equity loan can be paid back over a shorter period of time, typically 5 to 10 years. A mortgage loan has fixed payments, meaning that the amount you owe each month will not change. A home equity loan has variable payments, meaning that the amount you owe each month can change.

Understanding Debt To Income Ratio And How It Is Calculated

Before you apply for a home real estate loan you should know how to calculate your debt-to-income ratios. I will explain below how to do this. If your debt-to-income ratio is too high it might be time for you to stop and look at your finances. You could be on your job for 18 years, have a great credit score, and have lots of money in the bank. But if your debt-to-income ratio is too high you will not get approved for the home loan in most cases.

There are exceptions when you have compensating factors involved. Remember to take how much you qualify versus how much you can afford into consideration when shopping for a home. How much you qualify is how mortgage underwriters determine the maximum you qualify for a mortgage from the DTI they come up with.

However, how much house you can afford will take into your actual personal expenses that do not report on the credit bureaus. Mortgage underwriters will not take personal expenses including utilities when calculating the debt-to-income ratio. You do not want to buy too many houses and not have the ability to repay your mortgage.

What Is Debt To Income Ratio

Your debt-to-income ratio is a percentage of how much money you have allocated to your housing payment and other debts. You can calculate your Debt to income ratio by adding up your monthly minimum debt payments and dividing it by your monthly gross income. All mortgage lenders have a maximum debt-to-income ratio you are allowed to have depending on the type of loan you are applying for. The lower your debt-to-income ratio the better off you are. A lower debt-to-income ratio indicates how much of a risk you are in default on your home loan.

Front End And Back End DTI

Lenders have a front-end ratio also called the housing ratio and a back-end ratio. Front end ratio is your new mortgage payment which includes principal, interest, tax, homeowner’s insurance, mortgage insurance, and homeowners association monthly fee. A low front-end DTI is considered to have this below 31% in most cases. Your back-end ratio includes the same plus minimum monthly payments that are recorded on your credit reports such as credit cards, student loans, child support, auto loans, and personal loans.

Low back-end debt-to-income ratios is when borrowers have lower than 43% DTI. However, the maximum DTI allowed is substantially higher which we will discuss in the following paragraphs. To calculate your debt-to-income ratio you will need to add together all of your monthly debts and then divide it by your gross income.  You will not include utility bills, health insurance, groceries, entertainment, or commuting cost.

Agency Maximum Debt To Income Ratio Guidelines

Every mortgage loan program has its own maximum agency mortgage guidelines on the debt-to-income ratio. Fannie Mae and Freddie Mac will allow up to a 50% DTI cap to get an approve/eligible per automated underwriting system (AUS) on conventional loans. Fannie Mae and Freddie Mac do not have a maximum front-end debt-to-income ratio cap. To get an approve/eligible per AUS on FHA loans, the maximum front-end DTI cannot exceed 46.9% and the maximum DTI cannot exceed 56.9%.

The Veterans Administration (VA) has no maximum debt-to-income ratio caps on VA loans as long as you can get an approve/eligible per automated underwriting system. At Capital Lending Network, Inc., we have gotten automated approval with over a 65% DTI on VA loans. The key in getting an automated approval per AUS on higher debt-to-income ratios is strong residual income. VA loans are insured by the Department of Veterans Affairs. Debt-to-income ratio caps on non-QM loans depend on the wholesale lender. Most non-QM lenders will cap the debt-to-income ratio at 50% DTI.

Difference Between Manual Versus Automated Underwriting System Approval

If borrowers cannot get approve/eligible per the automated underwriting system and gets a refer/eligible, the file can be downgraded to a manual underwrite. There are only two mortgage programs that allow for manual underwriting. VA and FHA Loans. What manual underwriting means is the automated underwriting system determines the borrower is eligible but cannot render an automated approval from the data of the borrower.

However, the borrower can get approved through a manual underwrite. The only major difference between a manual versus automated underwrite is a human mortgage underwriter will thoroughly review and underwrite the file. The debt-to-income ratios on a manual underwrite are normally capped at 50% DTI with at least two compensating factors. Compensating Factors play an important role in debt to income ratio on manual underwriting.

Debt To Income Ratio Caps On Manual Underwriting

Debt-to-income ratio caps on manual underwriting depend on the number of compensating factors the borrower has. Compensating factors are positive factors such as the following:

• Low payment shock is the difference in the new housing payment versus the rent the borrower used to pay
• Three months of reserves (P.I.T.I.) is considered a compensating factor
• Income from a part-time job and/or other consistent income the borrower earned for at least 12 months but not used as qualifying income
• History of the borrower saving money over the course of the past two or more years
• Non-borrower spouse with a full-time job
• History of the borrower excelling in their job/career such as consistent promotions and/or pay raises and/or getting advanced degrees

Here is how the debt-to-income ratios on manual underwriting are determined. With zero compensating factor, the maximum front-end DTI is 31% and the maximum DTI is 43%. With one compensating factor, the maximum front-end DTI is 37% and the back-end DTI is 47%. With two compensating factors, the maximum front-end DTI is 40% and the back-end DTI is 50%.

Manual underwriting guidelines are the same for FHA and VA loans. The mortgage underwriter has a lot of discretion on manual underwrites. Mortgage underwriters can exceed the DTI caps via underwriter discretion on manual underwrites for borrowers with strong compensating factors.