With several different loan products available, you want to choose an honest lender, that holds strong principles to work with to help find the program that fits best with that borrower. When working with a reliable mortgage lender, like Fellowship, we will use certain metrics and indicators to find the best fit loan for YOU. In the following three part post, we will explore the three main metrics used to find the perfect loan for the borrower. These metrics are, Credit Score, Loan to Value Ratio, and Debt-to-Income Ratio. In this first part of this three part post we will examine debt to income ratio and how this impacts your loan.
When it comes to finding the best loan that suits you, your debt to income ratio plays a major role. In order to understand how your debt to income ratio affects your loan, you must first understand what makes up your debt to income ratio. Mortgage companies look at two different ratios when it comes to evaluating your mortgage situation.
The first ratio they look at, is your front-end ratio, otherwise known as your housing ratio. This ratio includes all your housing expenses, such as principal, interest, taxes, insurance and any Home association dues that may be included. The total amount of your housing expenses is then divided by your monthly income.
The second ratio is known as your back-end ratio. This ratio includes all monthly debt showing on your credit report including all your housing expenses. This includes but is not limited to, all revolving debt, any student loans, auto payments, installment loans, etc. All of your debt is then divided by your monthly income. Your back- end ratio will always be equal to or greater than your front- end ratio, because it includes all your debt including all housing expenses that are included in your front-end ratio.
When determining, which loan is most suitable for you, both these ratios play a crucial role. For both FHA and Conventional loans, guidelines state that your front-end ratio cannot exceed 44.99%. VA loans don’t necessarily have a specific front-end ratio, but ideally you want keep front-end ratio around 40% on VA loans as well.
When it comes to determining which loan is most suitable for a borrower, the back- end ratio, plays a greater role, due to the differences in the program. FNMA used to not only allow the back-end ratio to exceed 44.99% as well, but as of July 29th 2017, FNMA changed their loan guidelines to allow for a back- end ratio that exceeds 44.99%, allowing loans to go as high as 50% on their back end ratio.
FHA however, allows for a back-end ratio to go as high as 55% and possibly even as high as 56.99% if you have compensating factors, such as assets, residual income, significant additional income not included in effective income. Due to this higher debt ratio that is allowed on FHA loans there are borrowers who would not qualify for Conventional loans but do end up qualifying for FHA loans.