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Mortgage-Refinance Loan Measurement 101 -- Evaluate Your Own
Ability to Pay
We live in a society where people are losing their homes at an
alarmingly high rate. There are several reasons for this, but one
could certainly be avoided -- buying a house that creates a loan
that is too large for you to handle. This article will examine
how to decide your loan size -- whether you are purchasing or
refinancing. We'll look at this issue from the point of view of
lenders and from the standpoint of what is actually best for
you.
In a conventional, conforming loan -- one in which you have
good credit and good job history -- a lender will look at what he
calls "debt-to-income ratio." Many mortgage brokers refer to it
as DR (debt ratio). They also break it into two categories --
front end ratio and back end ratio. A front end debt ratio
calculates your gross monthly income against your new house
payment. Conventional lenders want this number to be at 28
percent or less. So, if you make $3,500 each month in gross
income (before taxes and other withdrawals), just take this
number and divide by 28 percent. This new number is $980.00,
which is the number the lender will use as your front end ratio.
So in the lender's mind, you can afford a house payment of
$980.00 or less.
Remember, though, this is only half of the equation. Now, the
lender will look at your overall debt scenario. When calculating
your back end debt ratio, the lender takes your new mortgage and
all other monthly credit debts -- car payments, credit card
payments, other loans, cell phones, etc. Items like insurance and
utilities are not included. Conventional, conforming lenders want
this ratio to be at 36 percent or less.
So, to calculate your back end or overall debt-to-income
ratio, take your gross monthly income and divide by 36 percent.
Again, let's assume you make $3,500 monthly. When divided by 36
percent, you get $1,225.00. Now, add up all your monthly minimum
payments, plus your new house payment, and this new number needs
to be less than $1,225.00. So, if you have very little debt, you
can afford to go all the way to the $980.00 for a new mortgage.
If you have a couple of cars, several credit cards and a cell
phone, you'll likely have to get much less house.
Now, these ratios are very conservative. In most cases,
lenders will allow you to break one or both of these guidelines,
based on other factors -- things like A+ credit, good liquid
assets or a large down payment. Or, you may need a loan program
that is non-conforming. This would involve a lender who increases
these ratios as high as 50 percent, meaning your debt can be half
of your gross monthly income. Lenders, you see, want to make
loans. That's why they are so rich, because they are doing
trillions of dollars in loans each year, and getting back even
more in interest payments.
In order to assure yourself of getting a loan that you can
afford, you should qualify yourself. It's important to remember
that when calculating debt to income ratios, lenders don't take
many important factors into account. For example, they allow you
to use gross income -- instead of net income. We pay our bills
with our net, not our gross. When deciding what you can qualify
for, consider your net income.
In other words, add up all your debts and look at the money
you have after taxes, retirement, savings, other investments,
etc. Also, account for debts lenders do not, such as insurance,
groceries, utilities, the probability that taxes on your home
will go up, clothing, and spending money for fun and hobbies.
After all, you want having a home to add to your life -- not make
it more difficult. Lenders leave this part out.
Mark Barnes is the author of the new novel, The League, the
first work of fiction, based on fantasy football. He is also an
investment real estate and home loan finance expert. Learn more
about his suspense thriller at http://www.sportsnovels.com.
Get his free mortgage finance course at http://www.winningthemortgagegame.com
 MORE RESOURCES updated Fri. September / 03 / 2010
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