Debt-to-income ratio for a mortgage: how lenders count it

The two ratios lenders look at

Most lenders look at two versions. The housing ratio, sometimes called the front-end ratio, uses only the proposed housing payment: principal, interest, property tax, homeowners insurance, mortgage insurance and any association dues. The total ratio, or back-end ratio, adds every other recurring debt to that payment. Program limits are written mostly in terms of the total ratio, but FHA's manual underwriting rules also set a housing ratio limit.

What counts as debt

Debts that usually go into the total ratio:

• The full proposed housing payment, not just principal and interest
• Car loans and leases
• Student loans, using the payment the lender is required to count under its program rules
• The minimum payment on each credit card, even if you pay the balance in full every month
• Personal loans, buy-now-pay-later plans that show on your credit report, and other installment debts
• Court-ordered child support or alimony

Things that usually do not count: utilities, phone bills, groceries, insurance premiums other than homeowners insurance, and subscriptions. That gap is the main reason a lender's approval is a ceiling, not a recommendation. A household with high childcare costs can look the same on paper as one without them.

Published limits

The limits differ by loan type and by how the loan is underwritten.

• Fannie Mae conventional loans. The Selling Guide sets a maximum total ratio of 36 percent for manually underwritten loans, which can be exceeded up to 45 percent if the borrower meets the credit score and reserve requirements in its Eligibility Matrix. For loans run through its automated Desktop Underwriter system, the maximum is 50 percent.
• FHA loans. HUD's manual underwriting tables start from 31 percent for the housing payment and 43 percent total, and allow higher ratios, up to 40 percent and 50 percent, only with documented compensating factors such as cash reserves or minimal payment increase. Loans approved through FHA's automated scorecard follow its findings instead.

Lenders can set tighter limits than the program, sometimes called overlays. Ask each lender what it allows for your situation rather than assuming the program maximum.

Reading your own ratio

A low ratio is not automatically comfortable, and a high one is not automatically reckless. Look at what the ratio leaves out. Subtract your housing payment, your debts, your taxes and your regular living costs from your monthly income. What is left has to cover repairs, savings and surprises. A homeowner pays for the water heater, the roof and the furnace, costs a renter never sees.

A practical test: live for two or three months as if you already had the new payment. Move the difference between your rent and the new payment into savings each month. If that is easy, the ratio is probably workable. If it is a struggle, the lender's maximum is too high for your household.

Ways to improve the ratio before applying

• Pay down small installment balances. An installment loan with only a few payments left may still count until it is paid. Ask the lender how it treats nearly paid-off loans.
• Lower card balances. A smaller balance usually means a smaller required minimum payment.
• Avoid new debt. A new car loan between preapproval and closing can raise your ratio enough to change the approval.
• Check student loan payments. If your report shows no payment because of deferment or an income-driven plan, the lender's program rules decide what figure it counts. Ask before you assume it is zero.
• Change the house, not just the loan. A lower price, lower taxes or no association dues reduce the housing payment directly.

Mistakes that skew the math

Using take-home pay instead of gross pay makes your ratio look worse than the lender's. Leaving out tax and insurance makes it look better. Counting overtime or bonus income that you have not received consistently can also mislead you, because lenders generally need a history before they count variable income. When in doubt, run the calculator with base pay only and a full housing payment, and treat any extra income as a cushion.