If you are in the process of buying a house and looking at home loans, it can be tricky to find the best one on your own. Whenever you apply for a home loan, banks, lenders, and mortgage brokers alike will make certain financial calculations in order to determine if you qualify for a home loan. One of the more important factors you should be familiar with in the loan application process is your DTI or Debt-to-Income ratio. This formula will enable you to understand what lenders or mortgage brokers are looking for before approving home loans.
What exactly is the Debt-to-Income Ratio?
DTI is the percentage of the money you spend compared to your total household income. Whenever you apply for a home mortgage loan, you have to meet the DTI ratio criteria established by the lender you work with. This enables the lender to be more confident that you won’t be taking on more debt than you can afford. Naturally, lenders will always prefer will have a lower DTI. There are two DTI ratios that they typically consider in the home loan process:
- Back-end DTI – includes all of the borrower’s minimum monthly debts. These monthly payments include auto loans, credit cards, personal loans, and student loans. This is the DTI that most lenders tend to focus on before they decide to approve your loan.
- Front-end DTI – includes all expenses related to housing. You can calculate this DTI by using your future monthly mortgage payment including your homeowner’s association dues (if applicable), homeowners insurance, and property taxes. Depending on the type of loan you’re applying for, front-end DTI may also include a mortgage insurance premium or private mortgage insurance.
To calculate your DTI, calculate all minimum monthly payments, divide that by your gross monthly income, and convert the results into a percentage.
The role of DTI in the Lending Process
When you apply for a home mortgage loan, the lender will carefully examine your finances such as the amount of your down payment, credit history, and gross monthly income. Lenders prefer that your back-end DTI is lower than 36% and no higher than 28% for your front-end DTI. Depending on your credit score, down payment, and savings, some lenders may accept a higher DTI ratio.
Get In Touch With Your Trusted Mortgage Expert in Colorado
The bottom line is that lenders and mortgage brokers use your DTI ratio to determine the risk of loaning money to you. The lower the ratio, the better the balance between your debt and income. If your Debt-to-Income ratio is high, this tells the lender that you have too much monthly debt for your monthly income. For more information about DTI, call Front Range Mortgage at (303) 500-1900 today.