Understanding Debt-To-Income (DTI)

1. Understanding Debt-To-Income (DTI) August 19, 2010 Patrick Brock Mortgage Loan Officer Bank of America Home Loans 626-253-3944 (cell) [email_address]

The debt-to-income ratio indicates how much of the buyers income goes toward debt payments.

The debt-to-income ratio can be used to determine whether the buyer has too much debt to qualify for a loan.

As a general guideline, the maximum total debt-to-income (DTI) ratioshould not exceed 36 % .

Certain loan programs may contain specific criteria that are more restrictive and/or different from these standard guidelines.

An excessive DTI ratio generally indicates that the buyer has insufficient capacity to support total monthly obligations.

The risk represented by the excessive DTI ratio can be offset by acceptable compensating factors.

A successful history (for at least 12 to 24 months) of paying previous housing expenses that were equal to or greater than the proposed monthly housing expense.

A large down payment (over 20%) toward the purchase of the property.

Purchase of a property that qualifies as anenergy-efficient dwelling , due to lower utility costs. Credit ratios may be increased up to 2% over the maximum allowed.

A demonstrated ability to devote a greater portion of income-to-basic needs like housing expense.

Lowering the monthly housing payment.

A demonstrated ability to accumulate savings and to maintain a good credit history or a debt free position.

A potential for increased earnings and advancement, because of education or job training, even though they have just entered the job market.

A net worth substantial enough to evidence the ability to repay the mortgage.

Reserves substantially higher than required by the program.

Expenses (Debt)- The applicant's recurring charges or payments.

Income- The applicant's verified gross monthly income from all verifiable sources that can reasonably be expected to continue for at least the next three years.

Total Debt-To-Income ratio- Ratio determined by dividing the total of monthly housing expense and other monthly expenses by the gross monthly income. The results of the ratio computation are always rounded up and are expressed as percentages.

EXAMPLE:

Total Monthly Expense (Debt): $ 1,700

Divided by

Monthly Income: $ 4,750

Equals: .3579

Multiply by 100 to convert to %: 36% (rounded up)

Simply:

DEBT (expenses)

INCOME

Expenses are usually expressed in terms of a specific time period (e.g., monthly, annually, etc.).

Recurring expenses must be expressed in terms of their monthly cost:

Annual expenses are divided by 12

Quarterly expenses by 3, etc.

Expenses include:

Payments on installment loans

Revolving credit (Credit Cards)

Auto loans

Mortgages (including taxes and insurance)

Alimony, etc.

Expenses The UW cares most about the items and expenses appearing on the buyerscredit reportat time of application.

All expenses appearing on the credit report will be included in the DTI ratio unless earmarked to be paid-off/paid-down, excused, or otherwise explained and excluded.

Rule of Thumb If it appears on the credit report, it is an expense effecting the buyers DTI ratios.

Acceptable Income Sources:

Alimony, Child Support or Separate Maintenance

Automobile Allowance

Business Expenses (Unreimbursed)

Bonus Income

Commission Income

Disability/Workers Compensation

Family-Owned Business

Foreign Income

Foster Care Income

Interest and Dividend Income

Manufacturing/Piece Work

Military Income or Military Reserve Income

Notes Receivable

Overtime

Part-Time Income

Payroll Services/Leasing Employees

Public Assistance Income

Projected or Proposed Income

Rental Income

Retirement Income Annuity, IRA/Keogh, Pension and Retirement

Royalty Income

Salaried Income

Second Job

Seasonal Unemployment with Associated Unemployment Compensation

Section 8 Payment Vouchers

Self-Employment

Social Security Retirement/Surviving Spouse or Child and Supplemental Security Income (SSI)

Temporary employment

Tip Income

Trust income

Unemployment Compensation

VA Benefits

Voluntary Separation Incentive (VSI)

Income The UW cares most about theverificationof ALL income listed on the buyers application.

Employment Income Pay stubs for the last 30 days.

Passive Income (Pension, Retirement, Disability, Social Security, etc.) Most recent statement verifying receipt of the passive income for at least the next 3 years.

Rule of Thumb Any income stated and utilized to determine DTI ratios NEEDS to be verified at time of application.The UW will verify the income again prior to drawing closing documentation (this is done to be sure no significant changes to income have taken place during the escrow process).

Whencommission incomeis used as qualifying income, the applicant must have atwo-year consecutive historyof receivingcommission incomeand the income must be likely tocontinue for the next three years .

Whenovertimeis used as qualifying income, the applicant must have atwo-year consecutive historyof receivingovertime incomeand the income must be likely tocontinue for the next three years .

The applicants overall income should be evaluated using the hourly rate, the number of hours worked, to develop an average of overtime earned to determine the amount that is most likely to continue for the next three years.

The loan file must contain an analysis of the income used to qualify.

Whenbonus incomeis used as qualifying income, the applicant must have atwo-year consecutive historyof receivingbonus incomeand the income must be likely tocontinue for the next three years .

Generally, the pay-off/pay-down of debt can substantially decrease the risk factor of a loan.

Consideration must be given to the type of debt being paid-off, as well as the applicants spending habits, source of funds used to pay-off/pay-downthe debt such as gift funds.

Verificationof sufficient funds to pay-off/pay-down any debt must be provided in the loan file.

Installment debt with 10 or fewer months remainingshould notbe included in the DTI ratio, unless the payment is substantial and the applicant has limited cash reserves.

If a revolving account (credit cards, etc.) is to be paid-off or paid-down but not closed, the existing monthly payment on the current outstanding balanceshouldbe counted in the DTI ratio.

Vary From Product-to-Product

Qualifying Debt-To-Income Ratios :

28/36%

Loan-To-Value (LTV) > 80%:Maximum DTI is 41% regardless of Digital Underwriting (DU) decision.

These ratios may be exceeded if there arecompensating factors .

Qualifying Debt-To-Income Ratios

3/1 and 5/1 ARMs:

Loan-To-Value (LTV) < or = 80%: 28/36%

Loan-To-Value (LTV) > 80%: 28/36%

Max DTI is 41%, regardless of the DU decision.

7/1 and 10/1 ARMs:

LTV < or = 80%: 28/36%

LTV > 80%: Maximum DTI is 41%, regardless of the DU decision.

Notes:

These ratios may be exceeded if there arecompensating factors .

Maximum DTI on 3/1 and 5/1 ARMs is 40% on manually underwritten loans withcompensating factors .

Qualifying Debt-To-Income ratios :

Ratios may exceed standard guidelines with strongcompensating factorswhen the loan is manually underwritten

Applicants with insufficient credit history are limited to a DTI ratio no greater than 31/43 and compensating factors do not apply.

Ratios may exceed standard guidelines with a Digital Underwriting result =Accept/ Approve .

Ratios may be exceeded to 33/45 for energy efficient transactions.

Understanding Debt-To-Income (DTI)

Economy & Finance

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