Lesson Six – What’s My Debt-to-Income Ratio?
Hey Hey Future Homeowner!
Today, you’re going to calculate your Debt-to-Income Ratio.
This section always comes packed with a lot of questions, so make use of our online community for answers.
You’ll have a 3-part assignment today: Calculate your Qualifying Income, Add up Your Fixed Debts, and to Calculate your Debt-to-Income Ratios.
Ready? Let’s Rock!
At the beginning of this course, I mentioned what lenders primarily look at when reviewing your finances. For some of you, all of your monthly income may not be considered; for others, only a portion of your income will be used.
Lenders review your financials – pay check stubs, bank statements, etc. – to determine your Qualifying Income.
If you work a standard 9-5 type of job, this will be super easy. Just grab the GROSS amount that you make each month (this is before anything is deducted, including taxes) and that’s your Qualifying Income.
Things get a little hairy, however, when you have a part-time job, a side hustle, receive child support, etc. The rule of thumb is: If it’s been received on a consistent basis for the past 2 years, you can use it. If not, it will not be used as a part of the income lenders use to qualify you for your home (this is why it’s called ‘qualifying’ income).
Self-employed? Your qualifying income is based on your taxes for the past 2+ years. Unlike a person with a job, the lender will NOT look at your gross income; they will look at the amount you said you made on your taxes made after all of your write-offs have been subtracted. My advice to you: either amend your taxes to reflect more income (can do so for up to 3 previous years), or plan well in advance to NOT write off much over the next 24 months. Keep pristine financial records as well, (especially taxes).
(Intensive students, review your notebooks for additional tips on Qualifying Income).
Assignment 1 – Calculate your Qualifying Income
Reviewing the tips above, calculate and write down your qualifying income. Remember, we’re focusing on gross, monthly qualifying income, not net.
Write it down with the heading “My Qualifying Income” in your notebook. Those in the intensive, you have a space in the workbook to log this information.
Next, we’ll calculate your fixed debts.
Lenders compare your fixed debts to your qualifying income to ensure you can afford a mortgage, and if so, what price range you should stick within so that you can comfortably meet all your financial obligations – your new mortgage payment and your current debts.
If you notice I keep saying fixed debts. That’s because not all debts are considered in this ratio.
A fixed debt is a debt that does not vary per month – student loans, car note, minimum monthly payments on your credit cards, mortgage loan, insurance etc.
You will not include utilities, rent (you’ll be paying a mortgage now), groceries, etc.
The lender obtains this information from the loan application you fill out, and your credit reports. Therefore, it’s important to make sure that the info on your credit reports is accurate.
So, for this assignment, I’d like for you to Identify Your Fixed Debts using your credit reports and your budget. A lot of people get confused by this step, so please ask questions if you do.
Keep in mind a lender is only concerned about your required minimum monthly payment, NOT the entire balance.
The guidelines will vary according to your loan type, we’ll cover these as we move along in the Challenge.
Assignment 2 – Calculate Your Fixed Debts
To complete this assignment, you’ll need the budget you completed, as well as a copy off your credit reports.
Take a log of your fixed debts on both your budget worksheet and your credit reports, and write them down next to your qualifying income with the heading “Fixed Debts”. Add them all up to arrive at a total. * Intensive students, I left you some additional information in your workbooks, so please review.
Now, it’s time to use both figures to calculate your debt-to-income ratios (YAY!!!).
Your debt-to-income ratio is one of the most important items that a lender will review when approving you for a loan. This is the difference between “denied” and “approved”.
If your debt load is too high, they’re not going to risk adding a 6-figure mortgage to it. They want to get paid – with interest – on time, until your home loan is paid in full.
This calculation is more important than your credit. I’ve closed on homes with 580 credit scores, but I could not close on homes with a 78% debt-to-income-ratio. You can purchase with lower scores, but you cannot purchase with an obscene amount of debt. It’s best to know your debt ratio now so that you can create a plan to bring it down by the time you want to Claim Your Keys.
Assignment 3 – Calculate Your Debt-to-Income Ratios
Grab your qualifying income and your list of fixed debts.
You’ll add all your fixed debts together (if you haven’t already) and divide it by your qualifying income. This will give you your debt-to-income-ratio.
If your DTI ratios are too high, you can fix the situation by
- Credit Repair (disputing non-public record debts from your credit reports)
- Reducing the amount of your home loan to one that fits within your debt ratios (buying a more affordable home)
- Bringing down your monthly debt payments (paying balances off, balance transfers, consolidations, settlements, etc.).
- Increasing your Qualifying Income – make mo’ money! 😊
Tomorrow, we’ll put all of this together by going over the Debt-to-Income Ratio requirements for each loan type. This will help you in selecting the best loan type that will work for your unique financial situation.
See you tomorrow!!!
Your Partner in Prosperity,
P.S. Know someone that could benefit from this awesome info we’re learning? SHARE! Here’s the link to give them: bit.ly/ClaimMyKeys