Debt-to-Income Ratios
If FHA borrowers start to default on their homes, it defeats the main purpose of the FHA. That's why there are certain criteria in place to ensure that homebuyers are not signing up for home loans that they cannot reasonably afford and pay back. Since the FHA has no minimum income requirement, it relies on the borrowers' debt-to-income ratio to determine whether they have the means to make monthly payments.
What Are Debt Ratios?
Your debt-to-income ratio (also called a debt ratio) gives lenders a clear picture of how much you owe each month to how much you earn. The debt ratio is calculated by dividing the sum of your monthly debts and dividing it by your total assets.
For your monthly debt, the FHA take into account all the money you owe: credit card or lines of credit payments, car payments, student loan payments, taxes, insurance, alimony and child support, as well as the amount of your potential new house payment. Your pre-tax income, wages, tips, child support, social security, amounts to your total monthly assets. The number you arrive at after dividing your total debt by assets is your debt-to-income ratio.
The FHA's Debt Ratio Limits
According to HUD Handbook 4000.1, FHA borrowers can have a “maximum qualifying ratio” 43%. Add up the total mortgage payment for your potential new home (principal and interest, escrow deposits for taxes, hazard insurance, mortgage insurance premium, homeowners' dues, etc.) as well as your recurring monthly debt (car loans, personal loans, student loans, credit cards, etc.). Then divide that amount by your gross monthly income. That number should fall under 43% to qualify.
Many borrowers may have a high enough credit score to qualify for FHA loans and be able to make the down payment as well. But your debt-to-income ratio plays a big role in a lender determining whether you should be granted a loan. A good credit report is important, and it shows lenders that you have a history of making payments on time. But a debt ratio that's too high tells them that you have high monthly expenses compared to how much money you earn and that you might not be the best at budgeting.
The FHA makes some discretionary exceptions for borrowers with debt ratios higher than 43% based on certain “compensating factors.” Borrowers who have higher credit scores, verified cash reserves, or Energy Efficient homes might be granted a loan despite higher debt-to-income ratios.
FHA Loan Articles
July 2, 2023Buying a home is a significant milestone in life, and for many, it's a dream come true. However, the path to homeownership can be fraught with challenges, and one of the most concerning issues can be high FHA loan interest rates.
June 27, 2023The FHA loan process is straightforward and has been successfully navigated by millions of homeowners. If you're considering an FHA loan to finance your home purchase, it pays to be prepared. To avoid mistakes before you start your loan application, homebuyers should keep these tips in mind.
June 20, 2023Can an FHA loan be approved if there are late or missed payments on the credit report? Navigating through financial challenges, such as escalating costs of living and employment uncertainties, can indeed make it difficult to maintain a perfect financial record.
June 15, 2023When you buy a home with an FHA mortgage, cash for closing costs and your down payment is required. It would be easy to assume you simply give the lender cash in the specified amount and that’s the end of the story.
May 20, 2023Did you know there is an FHA loan option that lets you build a house from the ground up? You can use this mortgage to build on land you own or on land you buy as part of the loan. But you will want to address some issues comparing construction loan options.
May 3, 2023Sometimes when buying a home there may be a question of surplus or excess land. You likely won’t face this issue when buying a condo unit, but for other types of purchases, this may be an important factor in the appraisal process.
