Getting a mortgage is an exciting milestone, but debt can complicate the process. As a mortgage lender reviews your application, they want to ensure you can manage the new mortgage payment along with your existing debts. While some debt is normal, too much can make lenders hesitate. Understanding how lenders evaluate debt when underwriting a mortgage helps you take steps to improve your chances of approval.
How Lenders Assess Your Debt
When applying for a mortgage lenders carefully review your debts using two key metrics
Debt-to-Income Ratio
Your debt-to-income (DTI) ratio compares your monthly debts to your gross monthly income. It’s calculated by dividing your total monthly debt payments by your gross monthly income. For example if your monthly debts total $2000 and your gross monthly income is $6,000, your DTI ratio would be 33% ($2,000/$6,000).
Lenders prefer to see a DTI ratio of 43% or less on conventional mortgages. Government-backed loans like FHA and VA mortgages allow for slightly higher DTI ratios. The lower your ratio the better as it shows you can comfortably manage mortgage payments plus other financial obligations.
Credit Score
The better your credit score, the better you are at paying your bills on time. For the best mortgage rates and terms, scores above 740 are ideal. Lower scores don’t always mean you won’t be approved, but they could mean higher rates or more requirements.
Making payments on time and keeping your balances low compared to your credit limits are good ways to show that you can handle your debts well.
Monthly Debts Counted in DTI Ratio
When calculating your DTI ratio, lenders will count these types of recurring monthly debts:
- Credit card payments
- Auto loans
- Personal loans
- Student loans
- Existing mortgages
- Home equity loans/lines of credit
- Child support
- Alimony
Debts not underwritten as part of your DTI include:
- Medical debt
- Utilities
- Cell phone plans
- Insurance premiums
- Retirement contributions
How Much Debt Is Too Much?
There’s no one-size-fits-all answer, as many factors determine approval, including your income, assets, credit score and down payment amount. However, lenders typically want your total monthly debts to be less than 43% of your gross monthly income to qualify for a mortgage.
You may find it harder to make your mortgage payment if you have a lot of debt. If your DTI ratio exceeds 43%, some options include:
- Paying down debts to reduce the monthly payments
- Increasing your income with a raise, promotion or side gig
- Adding a co-borrower to the loan application
- Making a larger down payment to offset risks
Talking with a mortgage lender can help you evaluate your unique situation to see how much mortgage you can afford. Preapprovals also give you a better idea of what lenders will accept.
Strategies to Improve Your Chances
Here are some tips to manage debts wisely so they don’t jeopardize mortgage approval:
Pay Down Credit Cards and Other Debts
When you make extra payments on your credit cards and installment loans, the balances go down, which lowers your minimum payments. This directly helps lower your DTI ratio. Pay off cards completely if possible.
Avoid New Debts When Shopping for a Mortgage
It can be tempting to finance furniture or appliances when moving into a new home, but opening new accounts adds to your DTI ratio. Try to limit new credit applications close to applying for a mortgage. Wait until after closing to take on additional debts.
Consider Deferring Student Loans
You can sometimes postpone federal student loan payments when going through major life events. This removes the payment from your DTI ratio calculations. Just be sure to factor the loans back in once your deferment period ends.
Ask Lenders About Alternate Calculations
Some lenders may be willing to use alternate calculations for certain unique situations. For example, using 0.5% of student loan balances rather than actual payments. Ask your lender if exceptions could help improve your DTI.
Explore Loan Options Like Physician and Bank Statement Loans
These specialized mortgages cater to borrowers with unique financial circumstances, using alternative criteria for approval. For instance, physician loans focus more on your earning potential. Bank statement loans look at account deposits rather than income.
Improve Your Credit Score
Higher scores demonstrate your ability to manage debts responsibly over time. On-time payments, low balances, and credit mix help. Be sure to correct any errors on your reports.
The Takeaway
Mortgage lenders allow for reasonable debt levels when buying a home. Just be sure your total monthly obligations in relation to your income align with general approval guidelines. Aim for a DTI ratio of 43% or less. And take proactive steps to demonstrate you handle debts wisely, such as maintaining good credit and paying down balances. With prudent financial management, you can still get approved for a mortgage, even with some debts.
Don’t miss any repayments
Defaults can take a long time to stop affecting your credit report.
Any missed payment, known as defaults, on any line of credit will affect your credit score. Even if you’ve only got £1 on your credit card and you forget to repay it, that’ll look like a late payment or a default. If you believe you’re going to start missing repayments, get in touch with your lender.
Identify large events that caused the debt
Mortgage lenders need to know why you’ve got debt. Some debt, like student loans, are easily recognisable. Meanwhile, others, such as one-off payday loans, need more explanation.
Lenders offer loans on a case-by-case basis. If, for example, you changed jobs and your car broke down before your first new paycheck, that would explain why you needed a short-term loan one time.
However, if your credit and loan history shows a pattern of borrowing from several lines of credit and over a longer period of time, this shows your spending habits aren’t caused by one major factor. Lenders are less likely to look favourably on these types of habits.
How Much Debt Can I Have and Still Get a Mortgage?
FAQ
How much debt can you have and still qualify for mortgage?
DTI stands for “debt-to-income ratio.” It shows how much debt you have compared to how much money you make. Most lenders won’t approve you if your DTI is higher than around 43%. It helps determine how much you can actually afford when it comes to mortgage payments. How Much Debt Can You Have and Still Qualify for a Mortgage?.
How much debt is too much when buying a house?
How much debt you can have when buying a house depends on your income, other debts you have, and the lender’s requirements. A crucial metric is the debt-to-income (DTI) ratio, which compares your monthly debt payments to your income. Lenders typically prefer a lower DTI ratio, often around 43% or less.
How much debt is a new mortgage?
Your total monthly debt payments (including a new mortgage) totals $2,500. To find your DTI, you would divide your debt ($2,500) by your income ($6,000). That comes to 0. 416%. Multiply that by 100 to come up with the DTI, which is 41. 6%. For a mortgage, most lenders set a maximum DTI anywhere between 35% and 45%.
Can you get a mortgage with a high debt-to-income ratio?
The traditional limits for these are 28% for the front-end ratio and 36% for the back-end ratio, however it is possible to get a mortgage with significantly higher debt. There are actually Fannie Mae lending guidelines that let debt-to-income ratios get as high as 45% for borrowers who are otherwise very qualified.
What is a good debt ratio for a mortgage?
Conventional mortgages usually require a debt ratio of 45% or less although you may be able to get approved with a ratio of up to 49.9% under very select circumstances. In any situation when a financial institution is considering giving you money, it all comes down to risk. How likely is it that you’re going to pay that money back?
Can I qualify for a specific mortgage amount?
However, if you’re curious about whether you can qualify for a specific mortgage amount, the best way to get a good estimate is to use our mortgage calculator to determine your expected monthly housing payment, add it to your other debts, and divide it by your pre-tax monthly income to find your DTI ratio.
How much debt is too much to get a mortgage?
A good debt-to-income ratio is usually 36% or lower, with no more than 28% of that debt dedicated toward servicing the mortgage on your home. A debt-to-income ratio of 37% to 43% is often viewed as an upper limit, although some specialty lenders will permit ratios in that range or higher.
Can I buy a house with $10,000 in credit card debt?
You can buy a house with credit card debt. However, they will want the minimum payment amount for each debt. Then they will look at your income per month and determine your debt to income ratio. If it’s over a specific threshold it could make it harder. I would focus on paying off as much debt as you can first.
Can I get a mortgage if I have bad debt?
It’s possible to get a mortgage with bad credit, although you’ll probably pay higher interest rates and you may need to come up with a larger deposit. There are mortgages designed for people with poor credit, and some lenders specialise in offering these.
Is $50,000 in debt bad?
In the context of US student debt, $50000 is above average, as many graduates carry debt amounts ranging from $20000 to $30000. However, it’s not uncommon for graduate degrees or certain professional programs to result in higher debt levels.