Regardless of whether you are applying for a new mortgage or refinancing you existing Los Angeles home, the lender wants to be sure that you can afford it. In order to determine that the lender will evaluate your debt to income ration, or DTI.
A high debt to income ratio could make getting approved for a new loan quite a challenge. However, there is a way to manage the situation and make the numbers work. Remember, lenders value low DTI, not high income.
First, let’s clarify what is DTI and how it is calculated.
What would be considered as debt in calculating DTI?
- Housing related expenses, such as:
- Your future mortgage payment
- Homeowner’s insurance and property tax
- HOA dues, if there will be any
- Minimal payments towards your other debt, such as:
- Student loans
- Credit card payments
- Child support and alimony
- Auto loans
DTI compares your total monthly debt, consisted of above mentioned, to your income before taxes. Let’s put in the numbers to illustrate. Say, your monthly income is $10,000 before taxes. Your current debt consists of mortgage, property taxes and insurance, which comes to about $2,000. Of course, you have a car, which is, for the sake of example, costs you about $500 a month. Let’s also assume, you have credit card payments or maybe a student loan, which in sum comes up to about $500. Which brings us to total of $3,000 of debt payments. Now, let’s plug it in the formula:
DTI = Monthly debt payment/ Gross monthly income = $3,000/$10,000 = 30%
Thus, your debt to income ratio is 30%.
What if you have a high DTI?
The above example shows desirable DTI, however, a higher DTI is acceptable. In fact, lenders might consider a 44% DTI, assuming a perfect credit record and other variables. But what if your DTI is higher than 44%?
Luckily, you still have options. Here is what you can do:
- Look in to more forgiving loan programs. For instance, Fannie Mae sets a maximum DTI at 35% for those with lower credit scores and smaller down payments and at 44% for those with better credit record and higher down payment. In comparison, FHA loans allow a DTI as high as 50% with a credit score as low as 600. In addition, FHA loans do not require a high down payment.
- Restructure your debts. There are a few ways to twig your debt, for instance, you can refinance you student loan. Extending, or spreading out, if you will, your student loan over a longer term will help you bring your payments down which will, in turn, lower your overall monthly liabilities and consequently your DTI. Your credit card debt can be reduced as well through transferring your balance to a new account with a 0% introductory rate.
- Pay down, or pay off your accounts.
- Cash-out refinance. You can lower or eliminate your debt by taking cash out.