What do you need to know about debt-to-income (DTI) ratio guidelines for VA home loans? Those new to VA mortgages or home loans in general soon learn that it’s not just your FICO scores that determine whether or not you financially qualify for a mortgage; your debt-to-income ratio also plays a large role in the lender’s decision to approve or deny a mortgage.
VA Income Verification Guidelines
The lender must first determine what a VA loan applicant’s verifiable income is. This means that the income used in calculating your debt ratio must meet VA criteria for being stable and likely to continue.
That means that some income may not qualify and those earnings will be left out of the ratio for loan qualification purposes. If you earn non-traditional income such as online retail sales as a self-employed person, for example, those earnings would have to show the lender a pattern of stability over time.
The thing to keep in mind about this? Lender standards vary, and while there are some specific guidelines in the VA Lender’s Handbook (VA Pamphlet 26-7), there are also variables that may affect your transaction. The main thing to remember about verifiable income is that the lender must be able to determine your income is dependable and likely to continue.
Some kinds of income count, but only after you have earned for a specified amount of time. If you have not earned commission income for 24 straight months, for example, the commissions may not count toward your DTI ratio. If you have been self-employed for less than two years, that may also apply to those earnings, too.
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Your Debt
Like income, some of your debts count toward your debt ratio, and some do not. Your home expenses count, your credit cards count, and your personal loans and other forms of commercial credit count toward your debt ratio. Utility bills count, child support and alimony count (even though these items may not show up on your credit reports), and child-care expenses count.
Collection actions are counted IF they result in a monthly payment. Your health insurance premiums may not be counted, your grocery bill is unlikely to be scrutinized, etc. Some of these factors vary depending on state law and other variables.
Calculating The DTI Ratio
Verifiable income is essentially your major debts per month divided by your monthly verifiable income. The resulting numbers are converted into a percentage. The higher the percentage, the tougher it may be for your lender to justify approving the mortgage loan.
The lender can run these calculations with and without the new mortgage payment factored in; it’s the DTI calculation that includes the proposed monthly mortgage obligation that borrowers should be concerned with most.
What VA Loan Rules Say About Your Debt Ratio
VA Pamphlet 26-7 advises your participating VA lender that the DTI calculation should not “automatically trigger approval or rejection of a loan.” Your lender is instructed to consider the DTI associated with “all other credit factors.” That means that even if your DTI is considered high, you may not automatically be out of options for VA mortgage or refinance loan approval.
How High Is Too High?
Your debt ratio, calculated with the projected mortgage payment should your VA loan application be approved, is basically the lender’s way of determining whether or not you can realistically afford the new loan.
But many borrowers come to the VA loan process with “compensating factors” such as large cash reserves, the ability to make a down payment or a bigger down payment depending on circumstances, and more.
Maximum Debt to Income And Compensating Factors
That’s one reason why a higher DTI isn’t the barrier to loan approval you might expect (at least in certain cases). But in general if your debt ratio is at or above 41%, your credit will be looked at more carefully and you may require those compensating factors (which may include having a large amount of discretionary income left over after your monthly obligations are met) to get closer to loan approval.
Some borrowers may be able to qualify for a mortgage even with a 50% DTI if they have residual income or other such compensating factors.
Credit And Debt
The more debt you carry, the more of a credit risk you may be–at least in the eyes of the lender. If you also have lower credit scores or a spotty repayment history, the combination of these factors can lead to your loan being denied.
But those willing to spend some extra time working on their credit and debt ratios often have a better time when they are ready to submit a mortgage loan application to a participating VA lender. Here are some facts about taking extra time to work on your debt ratio:
- All mortgage loan approvals rely on a combination of FICO scores, loan repayment history, and debt ratios.
- Based on the above, no borrower should rely on credit scores alone when reviewing their finances to determine personal creditworthiness.
- Borrowers who actively lower the amount of overall debt they carry will improve their own FICO scores over time by doing so.
- Reducing the balances of your credit cards below 50% (30% is best) simultaneously improves your credit scores AND improves your debt-to-income ratio.
- The most reliable way to repair your credit ahead of a VA mortgage is to establish 12 months or more of on-time payments on ALL financial obligations, reduce your credit card balances, and avoid taking out new credit in the meantime.
If your DTI is too high when you are thinking about submitting your VA loan application, consider waiting a while longer to lower your balances. Some borrowers can’t spare the extra waiting time for one reason or another; in such cases it’s best to ask your lender how much loan you could qualify for under your current DTI calculations and proceed from there.
VA Loan Rules: The Debt-To-Income Ratio Versus Residual Income
As mentioned above, the lender is required to calculate your debt ratio, including a list of things that must be counted in that tally. Residual income is sometimes interchanged with Debt-To-Income. However, the VA also wants to make certain that you have enough money left over to take care of your day-to-day expenses. In order to qualify for a VA loan, you must meet a specific residual income threshold, which varies depending on the size of your family and where you live.
Joe Wallace is a 13-year veteran of the United States Air Force and a former reporter for Air Force Television News
