How Underwriters Calculate Debt-To-Income Ratio

How Underwriters Calculate Debt-To-Income Ratio

Gustan Cho Associates are mortgage brokers licensed in 48 states

This blog will cover how underwriters calculate debt-to-income ratio on mortgage loan programs. Every loan program has lending requirements on the maximum front-end and back-end debt-to-income ratio requirements. Dale Elenteny of Gustan Cho Associates best explains the definition of debt-to-income ratio used by mortgage lenders:

Debt-to-income ratios sum all monthly obligations divided by the borrower’s gross income. The lower the debt-to-income ratio, the stronger the consumer’s financial profile is.

In the following paragraphs, we will cover why mortgage lenders get concerned with the high debt-to-income ratio of borrowers. We will discuss how underwriters calculate debt-to-income ratio of mortgage loan applicants.

Why Mortgage Underwriters Focus on Debt-To-Income Ratios

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Regarding mortgage income qualification, the less monthly credit obligation borrowers have, the better the chances are for a residential mortgage loan approval.

There are certain ways in which how underwriters calculate debt-to-income ratio of mortgage loan applicants. Borrowers’ debt-to-income ratio is one of the most important factors regarding mortgage approval.

There are monthly debts that borrowers can eliminate for monthly income qualification where the monthly credit payments can not be counted. This article will discuss and cover How Underwriters Calculate Debt To Income Ratio.

How Underwriters Calculate Debt-To-Income Ratio On Payments That Can Be Eliminated

For those who are co-signer for a loan, that monthly payment reflected on their credit report can be eliminated in monthly income qualification if, and only if, they have proof that they are not making that payment. For example, here is a case scenario where borrowers with a vehicle they have co-signed for a family member.

If the borrower who co-signed for a vehicle for a family member can provide canceled checks from the prior 12 months from the family member, that monthly payment can be eliminated from the monthly income qualification from the mortgage application.

Borrowers with student loans who have their parents paying their loans can be exempt from the student loan debts from debt-to-income ratio calculations. Suppose parents are paying the student loan payments and can provide 12 months of canceled checks for the payments. The monthly student loan payments will not be counted toward the debt-to-income ratio calculations.

Deferred Student Loans On How Underwriters Calculate Debt-To-Income Ratio

The Federal Housing Administration (FHA) no longer allows deferred student loans that have been deferred for 12 or more months to be exempt from debt-to-income calculations. Dale Elenteny of Gustan Cho Associates explains how debts paid by other family members can be exempt from debt-to-income ratio calculations:

If the monthly debt payments is being paid by others, the monthly payments will not be counted towards the monthly income qualification on mortgage DTI calculations. Eliminating these payments, they are not paying on will lower debt-to-income ratios and enable them to qualify for a mortgage loan they would have otherwise not qualified for.

Income-Based Repayment (IBR) monthly payments do not count on FHA loans but are allowed on Conventional loans. As mentioned earlier, if someone else is paying your monthly debts and you can show 12 months of canceled checks, it can be exempt from the debt-to-income ratio calculations.

How Mortgage Lenders Calculate Debt-To-Income Ratio on Government and Conventional Loans

Here is how underwriters calculate the debt-to-income ratio for conventional, FHA, and USDA borrowers with outstanding student loans. 0.50% of the outstanding student loan balance will be used as a monthly debt in calculating debt-to-income ratios.

Borrowers can contact their student loan provider and tell them they are applying for a mortgage and need a fully amortized monthly payment over an extended term (normally 25 years). This fully amortized monthly payment is approximately 0.50% of the student loan balance. With VA Loans, deferred student loans that have been deferred for more than 12 months are exempt from debt-to-income calculations.

How Underwriters Calculate Debt-To-Income Ratio on Government and Conventional Loans

How underwriters calculate debt-to-income ratio depends on the individual mortgage loan program. This section will cover the maximum debt-to-income ratio requirement for FHA, VA, and Conventional loans. For conventional mortgage loans, the maximum debt-to-income ratio is normally capped at 50%. Dale Elenteny of Gustan Cho Associates explains debt-to-income ratio cap on manual underwriting on FHA and VA loans.

VA and FHA loans are the only two mortgage loan programs that allows manual underwriting. The maximum debt-to-income ratio on manual underwriting is 31% front-end and 43% back-end with one compensating factor, 37% front-end and 47% back-end with one compensating factor, and 40% front-end and 50% back-end with two compensating factors.

The maximum debt-to-income ratio on USDA loans is 29% front-end and 41% back-end DTI. VA loans have no maximum front-end and back-end debt-to-income ratio cap as long as the borrower has sufficient residual income. FHA loans’ maximum debt-to-income ratios are capped at 46.9% front end and 56.9% back end to get an automated underwriting system approval. Having a low debt-to-income ratio is considered a compensating factor.

Installment Loans Under 10 Months Left

How underwriters calculate debt-to-income ratio on installment loans with under ten months of payments left is not to count the DTI. The monthly debts can be excluded from debt-to-income calculations for borrowers with installment debt with less than ten months left. This is especially common for automobile loans where if the final payoff is ten months or less, that payment will not be used in DTI Calculations. This does not apply to automobile leases and only automobile purchase loans.

Lender Overlays On Debt-To-Income Ratios

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Most lenders have overlays on debt-to-income ratios. For example, the maximum DTI allowed per HUD guidelines to get an approve/eligible per Automated Underwriting System (AUS) is 46.9% front end and 56.9% back end DTI.

Lender overlays are the lender’s independent mortgage guidelines that are higher than the minimum agency guidelines on FHA, VA, USDA, Fannie Mae, and Freddie Mac. The way how underwriters calculate debt-to-income ratio is by following the maximum front-end and back-end agency guidelines. Most banks and mortgage companies will cap the debt-to-income ratio at 45% to 50% as part of their lender overlays.

Viewers who have questions about how underwriters calculate debt-to-income ratio, please get in touch with us at Gustan Cho Associates. Borrowers needing to qualify with a lender with no overlays on government and conventional loans, don’t hesitate to contact Gustan Cho Associates at 800-900-8569 or text us for a faster response. Or email us at gcho@gustancho.com. We are available evenings, weekends, and holidays seven days a week.

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