Monday, February 9, 2009

FYI on DTI

Have you heard the acronym “DTI” and wondered what it was or what the letters stood for? You see, your DTI is a major factor to consider when searching for that dream house…

In the lending world, DTI stands for debt to income ratio. One’s DTI always has been a very important factor when a lender makes a credit decision. However, recently, it’s becoming increasingly part of the loan decision swing vote. Nowadays, the acceptable DTI for different loan types seems to be lowering or holding steady. And the wiggle room for exceptions is getting smaller and smaller. No big surprise here, right?

How do you figure out what your DTI is? Easy enough. You tally all your monthly payments (just those that show up or will soon show up on a credit report). You don’t include incidentals such as your utility bill or your cable bill -at least for qualifying purposes. However, don’t forget your total budget when personally considering what type of house you can afford. Use your head. Anyway, back to calculating DTI. So, total up your monthly obligatory payments, including your new house payment, then divide the sum by your gross monthly income. That percentage is your DTI. For instance, say I make $3000 a month as a salaried employee. I have a $285 a month car payment and a $48 per month credit card payment. I want to buy a house where my total monthly payment will be $800. My DTI is the sum of all these monthly payments ($1133) divided by my income ($3000). Thus, my proposed DTI is 38%.

Across the board, 38% is a decent DTI. But what constitutes an iffy DTI? It depends on your loan type. Historically, if you got an approval in an automatic underwriting system (AUS), it was rare that your loan wouldn’t get an official blessing from the actual underwriter when reviewed. Rare, but not unheard of. Nowadays, these underwriting denials based upon DTI are becoming less rare. Especially for conventional financing when less than a 20% down payment is involved. This change is because there is mortgage insurance involved when less than 20% is put down on the property. You see, the automatic underwriting approval engine that was created using guidelines from Fannie and Freddie doesn’t necessarily protect the mortgage insurance (MI) companies who are underwriting these loans. And these MI companies have their own set of risk guidelines that apply to these loan scenarios. Thus, currently, a conservative DTI for a conventional loan is 45%. Just a few weeks ago, you have a 48% or 50% DTI and not fret a bit about loan approval as long as you got an AUS approval. Not so much today. Currently, you can exceed this DTI guideline only if you have a spanking credit score and some reserves to show for yourself. Again, this applies to loans that require monthly mortgage insurance. However, in general, for conventional financing, a DTI of 45% is a good rule of thumb.

The other loan types are even more conservative. For FHA financing, expect to command a 43% DTI, and for VA and Rural Housing try for 41%. However, FHA and VA are more flexible if you get an AUS approval at a higher DTI with few or little reserves. A good credit score never hurts in these instances. Rural Housing will consider crossing its DTI threshold with excellent compensating factors (i.e. high credit score) and other help such as evidence that the new housing payment isn’t completely out of whack with what the borrower is currently spending on housing. They call it payment shock.

So, if you’re browsing through real estate magazines and dreaming of a new home, use these guidelines to narrow your focus. Or better yet, get pre-qualified with a lender so you know how big you can dream!


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