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When applying for a mortgage in hopes of buying a home, it can feel like there are so many factors outside of your control. Like there are endless terms and rules you need to learn and abide by.
However, your Debt-to-Income (DTI) ratio* to buy a house may be more within your grasp than you realize. It’s the official term lenders use to describe something simple – how much money you make, compared to how much you spend. And it can have a direct affect on the affordability of your mortgage.
Lowering your DTI ratio can help you secure a mortgage for a home while also making sure that you’re able to pay your debts while living comfortably in that home.
Let’s dig into what debt to income means for buying a house, as well as what you can do to make it work for you.
*Debt-To-Income (DTI) ratio is monthly debt/expenses divided by gross monthly income.
What is a Debt-to-Income Ratio for buying a house?
Lenders use the DTI ratio to understand whether homebuyers have enough ongoing income to support taking on the new debt of a mortgage.
The DTI ratio uses the following two factors to determine this:
- Your monthly debt or expenses
- Your gross monthly income, which is the amount of money you make a month, before taxes or other deductions
DTI ratio = monthly debt divided by gross monthly income
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What Debt-to-Income Ratio is needed to get a mortgage?
Qualifying debt-to-income ratios can vary by the loan program and homebuyer’s situation, but a DTI ratio of under 50% is often accepted. In many cases though, lenders will limit this, only accepting a DTI ratio of 43% or lower to get a qualified mortgage.
Typically the lower this ratio the better. A lower ratio is better in terms of risk, but it won’t actually improve the terms of your mortgage.
It proves to a lender that you have stable income and that you manage your debt well. Because of this, you may be approved to borrow a larger amount of money and avoid added costs, such as mortgage insurance.
Understanding your own situation
To learn where you might stand with your income and debt, learn more about what lenders will request and assess to calculate your DTI ratio.
When you apply for a mortgage, the lender will request to see proof of the income you plan to use to pay your loan. They’re assessing whether you have consistent and ongoing income to cover the cost of a mortgage.
Ahead of applying for a mortgage, this gives you insight into how to assess your own income, which brings you one step closer to calculating your DTI ratio.
Make a list of your sources of income. This could include pay stubs, commissions, child support, investment income, W2s, or 1099s for those who are self employed. Use these to calculate your gross monthly income (again, this is the amount of money you make a month, before taxes or other deductions).
You’ll also need to show proof of your debt or liabilities to a lender. This could include recent statements that show what you owe in credit card debt, another mortgage, auto loans, student loans, or any other debts.
List each of your accounts, and the ongoing payment amounts for these debts. Use this information to calculate your monthly debt or expenses.
Calculate your Debt-to-Income Ratio
Now that you know your gross monthly income and your monthly debt, you can use that to calculate your DTI ratio. Use the equation mentioned above:
DTI ratio = monthly debt/gross monthly income
For example, if you have a monthly debt of $1,000, and a gross monthly income of $3,000, you would divide $1,000 by $3,000 to get a DTI ratio of 33%.
How to lower your ratio
If you find that your DTI ratio is higher than the typically accepted 50%, you might have trouble getting approved for the loan amount or mortgage terms that you want.
However, there are ways you can lower the ratio. You can either earn more income, pay down your debt, or both.
Calculating the ratio can help you determine a specific number that you need to work toward, whether that means raising your income or lowering your debt.
Learn how your Debt-to-Income Ratio Could Affect Your Mortgage
If you want to find out specifically how your DTI ratio will affect your eligibility and the affordability of a mortgage, you can speak with a loan officer to discuss your situation.
Reach out to us to get started with a dedicated loan officer who can help you determine the best ways to get the most affordable mortgage possible.