Word came down from the Federal government this week that Fannie Mae, the country’s primary backer of secured mortgage loans, will ease its cap on debt-to-income ratios for borrowers. That could in effect allow thousands of young millennials and first-time homebuyers qualify for a mortgage that they otherwise may have been just shy of qualifying for.
That’s because millennials and younger first-time homebuyers are often saddled with student loan debt. The debt-to-income ratio is a metric used by mortgage loan originators to determine how much of a borrow’s monthly income goes to servicing existing debt, like student loans, credit cards, and auto loans. The higher the ratio, the less creditworthy a borrower is.
The new cap that takes effect next month is a 50% cap on debt-to-income, upped by 5% of Fannie’s previous cap of 45%. In simplistic terms, if you earn $5,000 a month from your job, and you have a car loan ($400), credit cards ($100), and student loans ($600), that means your debt-to-income ratio pre-mortgage is 22% ($1,100 of your $5,000 in income is used to pay existing debt.)
But lenders factor in your mortgage payment into your ratio. So, the highest mortgage payment you can quality for is $1,400 a month ($5,000 x 50% = $2,500; $2,500 – $1,100 = $1,400.) A $1,400 a month payment for mortgage interest and principal equates to a loan of about $250,000.
Qualifying for a mortgage with the new debt-to-income ratios
While your debt-to-income ratio is one very important factor in the mortgage qualification process, it’s not the only one. Other factors that make the difference between whether you qualify or not include your credit score, your employment status, and the amount of your down payment.
For some potential home buyers, the credit score is acceptable, and the borrower may have a down payment ready. But they get tripped up by the debt-to-income ratio. If the ratio is uncomfortably high, lenders may shy away. The 5% increase in the cap will allow many potential borrowers who have been denied in the past an opportunity to re-qualify.
It’s imperative to work with a mortgage broker!
All this being said, we highly encourage all first-time home buyers to work with a mortgage broker. Here’s why: mortgage brokers have relationships with many different lenders, and they can tailor a lender to your needs. Got a high debt-to-income ratio? Your mortgage broker knows which lenders are a little more flexible with that. Got a small down payment? Your broker knows the lender for that. Check out this article we wrote on why you should hire a mortgage broker. And if you need a referral to a good broker, we can help you with that, too.
The bottom line: You may be able to qualify for a mortgage given the loosening of the restrictions on the debt-to-income ratio lenders use to determine your creditworthiness.