Wondering How Much Home You Can Afford?
Written by Susanne on June 19th, 2009
With home interest rates at historic lows and home values continuing to decline are you dreaming of buying a home but unsure of the first steps to take?
Getting your credit score in line (see March 2009’s “How to Build a Killer Credit Score”) is key; however, debt-to-income ratio ( DTI ) is considered one of the most important qualification requirements when getting a home loan approved. Simply put, DTI is a calculation of your monthly debt obligations compared to your adjusted gross income.
When a lender reviews your application, along with your credit, they also consider your debt-to-income ratio, which is used to determine your ability to pay as well as how much the lender is willing to lend to you.
Lenders scale this ratio and will restrict the type of programs you qualify for. The higher the ratio, the more limited your options are.
There are two DTI ratios to be aware of.
Front-end ratio
Front-end ratio, also known as housing ratio, is for home-related monthly payments to monthly income. This includes mortgage principle and interest, property tax, hazard (homeowners) insurance, homeowners’ association fees and private mortgage insurance (PMI). Front-end ratio restrictions may vary according to the loan program and lender, but typically should not exceed 33% of gross monthly income.
Back-end ratio
Back-end ratio, also known as the total-obligation ratio, is the more important of the two. It takes into consideration not only your housing ratio but your total debt obligations. Total debt obligations are all items on your credit report such as credit card payments, auto loan payments, student loan payments, etc. Back-end ratio should not typically exceed 40%, but may vary depending on other factors; reserves after close, credit score, employment history, etc.
On a new loan, the new payment is also included in the DTI calculations. If the amount applied for exceeds the ratio guidelines, you may be required to pay off or pay down some of your other debts or lower your loan amount request.
It may be confusing out there, but the Credit Union can help alleviate the confusion! Give us a call to learn more and take your first step towards home ownership!
