Importance Of Debt To Income Ratio In Mortgages

This BLOG On The Importance Of Debt To Income Ratio In Mortgages Was Updated On March 18, 2017

Borrowers need to keep in mind with the Importance Of Debt To Income Ratio In Mortgages when qualifying . DTI is what determines whether or not a borrower qualifies for a mortgage. You can have the best credit and credit scores in the world but if your debt to income ratios are too high, then borrowers will not qualify for a home loan. The borrowers DTI is what determines how much of a mortgage they qualify for and how much the mortgage lender is willing to lend. There are Mortgage Guidelines On Debt To Income Ratio and every loan program has different requirements. Debt to Income Ratios is equally as important as the borrower’s credit and credit scores and is part of the mortgage qualification process.

Below is a detailed summary and explanation of the Importance of Debt to Income Ratios in Mortgages from Wikipedia

A debt-to-income ratio (often abbreviated DTI) is the percentage of a consumer’s monthly gross income that goes toward paying debts. (Speaking precisely, DTIs often cover more than just debts; they can include certain taxes, fees, and insurance premiums as well. Nevertheless, the term is a set phrase that serves as a convenient, well-understood shorthand.) There are two main kinds of DTI, as discussed below.

There Are Two Types Of Debt To Income Ratios

Below is information obtained by Wikipedia with regards to the two types of debt to income ratios used by mortgage lenders:

The first DTI, known as the front-end ratio, indicates the percentage of income that goes toward housing costs, which for renters is the rent amount and for homeowners is PITI (mortgages principal and interest, mortgage insurance premium [when applicable], hazard insurance premium, property taxes, and homeowners’ association dues [when applicable]).The second DTI, known as the back-end ratio, indicates the percentage of income that goes toward paying all recurring debt payments, including those covered by the first DTI, and other debts such as credit card payments, car loan payments, student loan payments, child support payments, alimony payments, and legal judgments.

Case Scenario On Calculating DTI

In order to qualify for a mortgage for which the lender requires a debt-to-income ratio of 28/36:Yearly Gross Income = $45,000 / Divided by 12 = $3,750 per month income. $3,750 Monthly Income x .28 = $1,050 allowed for housing expense. $3,750 Monthly Income x .36 = $1,350 allowed for housing expense plus recurring debt.

What DTI limits are used in qualifying borrowers? United States

Below Is The Theory On Debt To Income Ratios But This Is Not The Correct Information

In the U.S., for conforming loans, the following limits are currently typical: Conventional financing limits are typically 28/36. FHA limits are currently 31/43. VA limits are only calculated with one DTI of 41. (This is effectively equal to 41/41, although VA does not use that notation.) USDA 29/41

Non Conforming Loans

Back ratio limits up to 55 became common for nonconforming loans in the 2000s, as the financial industry experimented with looser credit, with innovative terms and mechanisms, fueled by a real estate bubble. The mortgage business underwent a shift as the traditional mortgage banking industry was shadowed by an infusion of lending from the shadow banking system that eventually rivaled the size of the conventional financing sector. The subprime mortgage crisis produced a market correction that revised these limits downward again for many borrowers, reflecting a predictable tightening of credit after the laxness of the credit bubble. Creative financing (involving riskier ratios) still exists, but nowadays is granted with tighter, more sensible qualification of customers.

Historical Limits

The business of lending and borrowing money has evolved qualitatively in the post-World-War-II era. It was not until that era that the FHA and the VA (through the G.I. Bill) led the creation of a mass market in 30-year, fixed-rate, amortized mortgages. It was not until the 1970s that the average working person carried credit card balances (more information at Credit card History). Thus the typical DTI limit in use in the 1970s was PITI<25%, with no codified limit for the second DTI ratio (the one including credit cards). In other words, in today’s notation, it could be expressed as 25/25, or perhaps more accurately, 25/NA, with the NA limit left to the discretion of lenders on a case-by-case basis. In the following decades these limits gradually climbed higher, and the second limit was codified (coinciding with the evolution of modern credit scoring) as lenders determined empirically how much risk was profitable. This empirical process continues today

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