Many people will go online, fill in a few spaces on a calculator and be discouraged. Just because you put your monthly income, expenses, and approximate credit score in a computer program, that doesn’t mean it can foresee what your actual lender can and will do once they meet with you. These calculators can’t predict the flexible, case-by-case factors that lenders use to get your loan application approved.
Take a look at some of the things you should be considering when you are working to determine how much home you can really afford and whether you think you’ll qualify.
Debt-to-Income (DTI) Ratio
Your Debt-to-Income ratio is one of the ways that lenders determine a baseline for judgment regarding your capacity to pay the loan back. The Debt-to-Income ratio is used to measure your gross monthly income in relation to two different types of debts:
• The amount of money spent on primary housing-related expenses
• The amount of money spent on debts unrelated to housing such as credit cards, student loans, car payments, etc.
If you spend most of your income on paying debts, then you won’t have enough to spend on food, clothing, transportation and other essentials. A lender must take into account your monthly debt expenses when determining your ability to pay back a loan.
Your Housing Ratio
What percent of your gross income will be used for key housing-related expenses in a given month?
Your housing costs usually include the following:
• Interest, property taxes, principle, and the insurance on the loan for which you are applying
• Condominium or cooperative homeowner association fees that you may have to pay
• Additional fees that may be required for your loan or property such as flood insurance
As an example, say your total housing cost is approximately $1,800 a month and the income that you and your spouse, partner or co-owner earns in a month equals $6,000. Do some math, and it comes out to a housing ratio of 30%. This ratio, or a little higher, is typically considered acceptable by most lenders, as long as your total debts aren’t too high.
Your Total Debt Ratio
Of the two ratios considered, this is the most important. A lender will add up your total housing expenses and all the other recurring debt payments that you may have like credit cards, personal installment loans, alimony support, etc. and compare that to your monthly income.
If you consider the same example as mentioned above where your monthly income is $6,000, but your total debt is $2,460 per month, then the total DTI (Debt to Income) is 41%. This percentage is acceptable by most of the lenders. However, a debt of $2,700 will take your debt ratio to 45%. At 45% DTI, approval becomes questionable with many lenders. At 50% or above, you’ll likely have some work to do before being approved for a home loan.
Loan Types Matter
There are four major types of loans:
1. Conventional: These loans are intended to be sold to Fannie Mae or Freddie Mac, two of the huge mortgage companies. These loans may require a larger down payment and have stricter underwriting standards.
2. FHA (Federal Housing Administration): These loans are insured, specifically for first-time buyers, or for customers with a limited credit history.
3. VA: Deployed by the U.S. Department of Veteran Affairs, these loans are provided to active-duty and retired military personnel.
4. USDA: USDA (United States Department of Agriculture) Loans are sometimes referred to as Rural Development Loan. These loans are made available to low income individuals and families who are looking to live in a rural area.
Other Key Points:
If you make extra money from a side business like owning rental property, receiving royalties, etc., you can use these funds to help boost your earned income and the amount of home loan for which you are eligible. When considering extra income, make sure that it is consistent and that you plan for that income to help pay for your mortgage in the long term.
Your credit score is one of the most important factors in determining your eligibility for a loan. Some traditional lenders may not approve your loan if your credit score is below 640. However, in most cases there are options. At Alliance, your lender will look at the totality of your finances, your work history, and your ability to pay back the loan. They will help you to increase your credit score to hit that perfect number needed to quality for a home loan.
Don’t forget to consider closing costs in any calculations you make. Depending upon the location of the property, closing costs typically range between two and five percent of the total transaction. Not all sellers will pay closing costs, but it’s something you’ll want to ask for when negotiating the purchase of your new home.
So, you’ve learned that it’s important to know your debt-to-income ratio, the different types of loans you can apply for, and what lenders want to see during the approval process. Understanding all of this will help you take your first step towards buying a home! Working closely with your lender and knowing what factors are considered when looking to buy a home will give your options. Working with a lender at Alliance Credit Union will give you the confidence you need to make the right decision for you and your family. If you want to sit down with one of our lenders to see what you would need to do to start the journey towards home-ownership call the ALLIANCE Home Loan Center today and schedule an appointment (806) 776-0991. You can also APPLY ONLINE if you’re ready to start now!