At the time of mortgage approval, determining the total monthly debt burden of a borrower is very much confusing for a mortgage lender. As an individual when we apply for a mortgage, the lender will compare our monthly income and other monthly debts. It is required for the approval process to verify whether we are capable to afford the monthly house payments or not. Generally lenders fetch our financial information from the credit report. If they find our monthly debt burden is heavier than our monthly earning, they might reject the loan application. So, before applying for a mortgage we must review our credit reports, to enhance the chances of being approved.
In order to review your monthly debts & income you must take some steps:
1. Collect all your monthly debt statements & review them to make sure your total debt payment per month. You might not get all statements due to different accounts & their respective policies. So, you must log in to AnnualCreditReport.com and collect 3 free credit reports (once in every year). Your credit report will portray your payment history details & remaining balances of each account you are currently maintaining. This is the report which the lender will review before making any decision.
2. Determine your weekly gross income and multiply it with 52 weeks. Then you must divide the result with 12 months to get the gross monthly income. Any other cash bonuses and overtime bonuses are likely to be added and averaged. Try the same method for calculating monthly revenue of your spouse also, and add the sum of both parties. For an example – your wife earned monthly $4000, and your gross amount is $16000. So, the total monthly income (gross) will be = ($4000 +$ 16000) = $20000.
3. Gather all of your small monthly payments like bank loans, student loan payments, car premiums & credit card dues. Use your credit card balances wisely. If you have low balance on your card, try to make low payments like $10 to $15. Similarly if your card has large balances, choose to use 4% to 5% of that balances per month only. To get a clear picture of your DTI, make sure to add small-term loan payments also. Normally, loans with less than 6 months term will not be counted while reviewing your application.
4. You are going to buy a new house, & pile up a new debt upon you. So, you must also calculate how much you can pay towards your new home loan. First, your monthly payments can vary due to the amount you'll be putting down as down payment. If you pay 20% or higher of the loan amount as down payment, you'll be no longer required to avail PMI.
5. Know your DTI & balance it for a quicker approval. Add up the total housing expenses, outstanding debts per month & new mortgage loan payment (approx) together. Divide this total by the accumulated gross monthly income of yours. The result will be your DTI (Debt-to-income) ratio. There are two types of DTI – Front end & Back end ratio. In general, only 28% ratio is allowed in Front end & 36% is allowed in Back end ratio, for any conventional loan. There are some exceptions which the lenders will allow after considering the compensating factors like – good amount of savings, long & steady employment, good credit score, low amount of debts etc. FHA loans are more convenient to apply for, it doesn't have much strict criteria for home loans like other conventional ones.
Important things to check:
If after calculating your DTI, it shows a much higher result, you must consult with your lender about this matter. You may require to pay off some debts to lower your DTI.
After getting the report from AnnualCreditReport.com, always tally your statements with the credit reports as there may be chances of getting some errors/outdated data or duplicate entries in it. Your active accounts must be shown properly in the reports & make sure to rectify all disputes & errors by informing the customer service person. You'll find their contact details along with the each report.