VA Loans with High DTI
VA loans are evaluated in much the same manner as any other mortgage. Borrowers must be able to demonstrate a responsible credit history, show sufficient funds to close on a transaction, two-year employment record and the ability to repay the mortgage payment in addition to other monthly credit obligations. The affordability factor is primarily determined in two ways. One, looking at how much money is left over each month after all bills are paid and living expenses considered. This income is referred to as “residual income” and is unique to VA home loans. The second way is to compare monthly debt with gross household income. This number is expressed as a percentage.
The VA has established a chart that approved VA lenders refer to when determining the minimum residual income requirements based upon the loan amount, the location of the property and family size. For instance, the chart will tell you that for a family of four living I the Northeast the minimum residual income requirement is $888. The VA is fairly strict about residual income and not very often will lenders make an exception, especially if the money left over each month is much lower than the minimum.
Debt to income ratios, sometimes referred to simply as DTI, are calculated dividing total monthly debt by gross monthly income of all borrowers on the application. This monthly debt means adding up the principal and interest payment, a monthly amount for property taxes and also for insurance. For example, let’s take a 30-year mortgage with a loan amount of $200,000 and a rate of 3.75%. The principal and interest payment is $898. If annual property taxes are $2,000 per year, that’s $167 per month and for homeowner’s insurance add $85. The total housing payment is then $1,150. Other housing costs such as maintenance and utilities aren’t included in this figure.
Next, the lender will review the credit report and look at the minimum monthly payments for each account listed. If there are two credit cards with current balances adding up to $5,000 and a minimum monthly payment of $100, this would be added to the total housing payment. Now add an automobile payment of $550 and two student loan payments of $100 bringing the overall credit payments to $1,900. If there are any monthly spousal or child support payments, they will be included as well as long as the support payments will last for three more years. Child care expenses are also included as well.
But let’s just say there are no support payments or daycare in this example and use the $1,900 figure. The couple together makes $5,000 per month. To arrive at the DTI, divide $1,900 by $5,000 and you get .38, or 38. The couple’s debt ratio of 38 is below the maximum 41 that the VA suggests so this ratio will qualify.
Debt to income ratios are affected by not only debt and income but also by the terms of the loan. For example, if we use the very same example and instead of using a 30-year loan we use a 10-year term for the VA mortgage. The principal and interest payment balloons to $1,981 and when you add the remaining debt, the total monthly credit payments are $2,983. A quick DTI calculation with the same income yields a DTI of 59, much higher than the VA prescribes. But that doesn’t necessarily mean the loan will be declined. Yes, the ratio is higher than the 41 limit but this ratio is the suggested ratio provided by the VA and is not a requirement. It’s a guideline that lenders use.
Debt ratios can be much higher. Is there a limit? VA loan applications have been known to receive an approval with ratios as high as 70. As long as the residual income requirement has been met. In addition, should the lender approve a VA loan with high debt ratios there needs to be other facets of the loan that warrant the exception. These other facets are referred to as “compensating factors” and are highlighted by the lender as justification for approving a loan with high ratios. For example, the borrower’s credit score is 820. Or there is quite a bit of cash left over in the bank account providing the borrowers with a substantial amount of cash reserves. Again, as long as the residual income requirement is met, ratios can be a moving target.
How can that work? Someone who receives an approval and has high debt ratios, say 60, and still meets the residual income requirement, they probably have a higher income. If someone makes $2,500 per month, 60 percent of that is $1,500 with $1,000 left over while 60 percent of $10,000 per month is $6,000 with $4,000 left over.
When someone is considering buying a home and knows there may be a DTI question, the first thing to do is to speak with an experienced loan officer. By applying for a preapproval and allowing the loan officer to pull a credit report, the loan officer can submit the application through an automated underwriting system and see the results. With good credit and assets, high debt to income ratios can be overcome. But it’s important to know in advance before shopping for a home. You want to start searching for a property knowing your loan approval is already in the wings.
Please contact Gustan Cho Associates at Loan Cabin Inc. NMLS 1657322 at 262-716-8151 or text us for faster response. Or email us at firstname.lastname@example.org. The Gustan Cho Team at Loan Cabin Inc. are direct lenders with no overlays on VA Loans.