February 19th, 2014 3:23 PM by Gregg Mower
So what has changed, you asked? Well the single biggest change is the debt-to–income ratio has been capped at 43%. This is the mathematical number that a lender will use to qualify you. It is all your revolving debt (minimum monthly payments), that shows on your credit report, plus the calculation of your new house payment, plus taxes and insurance (PITI, even if you don’t pay those in your payment) divided by your gross monthly income.
This little formula is now the culprit for more people NOT qualifying for a mortgage. There are exceptions to this to allow for a higher DTI. Those exceptions will allow a borrower to have a higher than 43% DTI but not to exceed 45% for conventional loans or 50% for FHA loans. In order to exceed the 43% limitation a borrower must demonstrate that they will have several monthly mortgage payments left in their savings after the loan is consummated or prove that they are not increasing their housing expense significantly from either their prior rent situation or their prior mortgage situation. Oh, did I mention that you have to have an automated approval in addition to those compensating factors; well you do, to exceed a 43% DTI. Sounds complicated and it really is. I have had a real tough time explaining this to my customers sometimes, as in the case of a refinance, a client may have been making higher payments on their mortgage but fail to qualify for a mortgage with a lower payment because their DTI falls outside of the qualifying number.
Another problem with this rule is in the definition of income. Income is almost subjective when you are calculating it for a client as most of the time the income we use is less than what the client is actually receiving. This is especially prevalent in the self-employed folks, or those on commission or anyone that is not on a fixed salary for that matter. A salaried employee is the best form of income to use to qualify for a loan as an underwriter can use the income they make right now, but this is not true if you are paid anything other than a salary. For example; if you are hourly and are not guaranteed a set amount of hours per week then an underwriter will have to average your income over a period of time. Averaging works like this; if you have been working for the same employer for over a year and the employer can break down the hours you work, per week, month, or year the underwriter has a basis to work from. If you worked an average of 33 hours a week for the last year the underwriter will then take your current rate of pay (hourly rate) times it by the average hours per week times that by 52 (there are 52 weeks in a year) and divide that by 12 to get a monthly qualifying income figure. As you can see this may lower the income you think you make as you may have been working 40+ hours a week for the last month but your average is something less. For self-employed people it gets even worse, you have to have a 24 month average to calculate income. If a self-employed person made $100,000 last year net on their income taxes, but only made $25,000 the year prior the average will be $5,208 a month verses $8,333 the amount they are really making now. Also most self-employed people write off things on their tax returns to lower their overall tax liability and lenders have to use a self-employed person’s net income after all deductions to qualify them.
Enough about the boring details, but as they, “the Devil is in the details”. The whole idea of these new rules from the government is to protect people from themselves. Yes, the government figures that we are not capable of figuring out what we can afford and what we can’t. The same is true for lenders; the government has put these rules on private industry as the government believes that private companies are not capable of making good business decisions, even though the industry has been around for over hundred years. I could get into government intervention into our lives here but this is not forum for that (biting my tongue). There are more changes that I will cover in future articles but this is the largest change I have seen thus far. As always you can comment on this topic or any other topic within this blog.