ADVICE

The mortgage red flags that bankers see

Posted 8/4/14

Qualifying for a mortgage for large numbers of home purchasers not only is a tough challenge but one that ends unhappily – they get rejected.

The reasons for the turndowns typically involve multiple factors: below-par credit scores, inadequate documented income to support the monthly payments, little or no savings in the bank.

But a new survey by credit-score giant FICO offers buyers a rare peek inside the heads of credit-risk managers at financial institutions across the country and in Canada. Researchers asked a representative sample of them what single factor in an application makes them most hesitant to fund a loan request – in other words, what’s most likely to prompt them to say no.

The results provide practical insights to anyone who is thinking about applying for a mortgage. Tops on the list: Surprise. It’s not your credit scores. It’s not how much you’ve got for a down payment or what’s in the bank. It’s your “DTIs” – your debt-to-income ratios. Nearly 60 percent of risk managers in the FICO study rated excessive DTIs their No. 1 concern factor – five times the percentage who picked the next biggest turnoff.

Yet many new buyers have only a rough idea in advance of an application – even for a preapproval letter – about their own DTIs, how lenders view them, and what sort of limits they’re likely to encounter.

Since they are so important to a successful application, here’s a quick overview on what goes into DTIs and why they are such a big, red flag. Debt-to-income ratios for home loans are the most direct indication to a bank about whether you are going to be able to afford to repay the money you want to borrow.

Debt ratios for home loans have two components: The first measures your gross income from all sources before taxes against your proposed monthly housing expenses including the principal, interest, taxes and insurance that you’d be paying if the lender granted the mortgage you sought.

As a general target, lenders like to see your housing expense ratio come in at no higher than 28 percent of gross monthly income, though there is flexibility to go higher if other elements of your application are viewed as strong. In May, according to mortgage software and research firm Ellie Mae LLC, the average borrower who obtained home purchase money through investors Freddie Mac and Fannie Mae had a housing expense ratio of 22 percent. Federal Housing Administration-approved borrowers had average housing expense ratios of 28 percent.

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