Understanding Your Debt To Income Ratio
Your credit score is key if you are a first-time home buyer. The mortgage lender, someone like Rio Grande Credit Union, wants to see a good score, with several revolving credit accounts that have been successfully handled. They need to see that you can honor your commitments to your creditors and that you respect the credit concept. But what about your debt to income ratio? Here is a look at what you need to know so you're not surprised.
What Is Debt?
Not every bill you owe is considered a debt by lending institutions. An outstanding vehicle loan is a debt. Credit card balances are debt. Personal loans, student loans, or obligations like child support, are all considered debt. Credit cards should be listed at the minimum monthly payment, and student loans should be listed at the amount your loan provider suggests. You will also want to include the prospective cost of the home you want to buy, not your current rent. Things like the electric and water bill, recurring medical expenses, and the cable bill don't count as debt. Yes, you must pay them, but they aren't reported monthly to the credit bureaus. If you don't pay your water bill, for example, then they may report you to the credit bureau, which could affect you negatively, but paying it doesn't add positively to your credit report.
How Is The Debt To Income Ratio Figured Out?
To determine your debt to income ratio, add up all your debt, including the estimate from a mortgage calculator, and divide that by your total income. You can also use a convenient online calculator. Anything over 40 percent and the lender will consider you high-risk. Your debt ratio typically needs to be 39 percent or less for most lending institutions to consider giving you a mortgage loan, but there are many other factors that come into play, so don't get discouraged if your ratio is higher.
What Can Be Done If Your Debt To Income Ratio Is Too High?
Different mortgage programs have different criteria. If your mortgage lender was leaning towards one program before all the calculations were made, they may need to switch to a different product. This will usually mean a slightly higher interest rate or down payment. Federal government mortgage loan programs may also be considered. Oftentimes, the federal programs have more lenient requirements than traditional loans. You may also just need to pay down more of your debt before qualifying. Your banker or a credit counselor can help guide you in the right direction to get the debts paid and on your way to an approved mortgage.