Debt-Income Ratio and VA Loans

Are your monthly bills getting in the way of a home purchase?

Balance scaleUnderstanding the permitted debt-to-income ratio is crucial if you're considering getting a VA mortgage to buy a house.

The debt-to-income ratio is the ratio of your total debt, including your VA mortgage, to your annual income. This ratio is important because it will help determine whether you can pay off your VA mortgage on time.

What Is the debt-to-income ratio?

The debt-to-income ratio is a key financial metric that investors and lenders use to determine a person's ability to repay a debt. The ratio compares the debt a person owes to their annual income.

The lender will do a lot of work to determine whether you can get a VA home loan. A financial measure called the debt-to-income (DTI) ratio is one of the most important.

When qualifying for a VA home loan, the debt-to-income (DTI) ratio is one of the most essential financial criteria for lenders to consider.

This underwriting requirement gives VA lenders insight into your purchasing power and ability to repay a debt by looking at the relationship between your gross monthly income and your principal monthly obligations.

Some loan types need the examination of two different versions of the DTI ratio:

The link between your gross monthly income and your new mortgage payment is examined at the front end of the process. The back-end ratio takes into account all of your high monthly costs.

When it comes to VA loans, lenders only look at the back-end ratio, which provides a more comprehensive picture of your monthly debt and income status.

Veterans and service members will undergo more thorough financial scrutiny if their DTI ratio exceeds 41%. Even though the VA does not impose a maximum DTI ratio, it does establish a boundary between acceptable and unacceptable DTI ratios for potential borrowers.

Although the VA considers the DTI ratio a guide to assist lenders, it does not establish a maximum percentage that borrowers must remain within. However, mortgage lenders frequently have debt-to-income ratio restrictions, which may differ depending on the borrower's credit, financial situation, and other factors. The VA does not offer home loans.

The Importance of Debt to Income Ratio

Since there are so many different types of loans available, lenders use this ratio to determine whether they can trust you to pay your bills on time. The lender will look at the total amount of debt you have and the amount of income you have.

The lender will look at the total amount of your monthly income. For example, if you make $5,500 a month, and your total monthly debt payments are $1,000, your DTI ratio is 50 percent. The VA loan limits are based on the DTI ratio.

When looking at your DTI ratio, you want to ensure it's below 50%. Anything higher than that could be a cause for concern.

How to Calculate DTI for a VA Mortgage?

As an example, consider that you pay out $900 per month. Monthly debt payments include the minimum monthly payment:

  1. credit card payment(s),
  2. monthly student loan payment(s) (if applicable),
  3. car payment(s),
  4. court-ordered child support and alimony, and
  5. any other contractual obligation payment.
  6. New mortgage payment with real estate taxes and homeowner's insurance

The DTI calculation also takes into account the new mortgage payment. Utility costs are frequently not included in calculations. Mobile phones and other non-credit product payments are not included in the debt-to-income comparison.

After adding up all monthly debt payments, lenders compare the monthly loan payments to the monthly gross income. Additionally, the lender will include non-taxable income. Disability income, social security, and any other monthly income not taxed by the IRS may all be included in the gross monthly income total.
 
To demonstrate the debt-to-income debt ratio, we'll use the following example:
 
 Monthly income – $3,000
 
 Automobile payment – $200
 Payments made with a credit card – $100
 Loan for school – $100
 $500 for a new mortgage payment
 TOTAL AMOUNT = $900
 
Now divide $900 into monthly debt payments by the gross monthly income of $3,000.

The debt-to-income ratio is 30% in this example, which is an excellent debt-to-income ratio. However, consider including a second vehicle payment of $300 and $150 in credit card debt, and the mortgage payment is $700.

In that case, your monthly debt ratio explodes to 52% ($1,550 divided by $3,000).
 Automobile payment – $200 (1)
 Automobile payment – $300 (2)
 Pay with a credit card – $150
 Loan for school – $200
 Payment on a new mortgage – $700
 TOTAL – $1,550 DTI – 52%
 The VA's optimal debt-to-income ratio is 41%. However, some lenders will approve a loan application with a debt percentage of up to 50%. In comparison, other lenders will even accept a loan with a debt percentage of up to 60%.


What Is VA Residual Income?

The VA requires lenders to consider discretionary income and calculate their debt-to-income ratio.

The amount remaining from the household's monthly salary after all monthly commitments (including student loans, auto payments, credit card payments, etc.) and federal, state, and local taxes have been paid are referred to as the household's "residual income" (s).

The cost of upkeep and utility payments is also included in this calculation. The net income must be higher than the income tables for the VA residual region.

The residual income calculation aims to determine whether the veteran borrower(s) has adequate income to pay for petrol, food, and other basics often found in a household.

The VA makes use of charts to assist in the calculation. Two charts are shown below. The first chart is for loan amounts less than $79,999, while the second is for loans greater than $79,999. Additionally, the charts take into account the family size and the house's geographical location.

By subtracting monthly debt payments from the gross income in the above example, we can compare the residual income to the VA's figures.
Assume the residence is located in the Northeast; there are four family members, and the monthly household income is $3,000. In this scenario, the minimum required residual income is $1,025.

$3,000 less $1,550 = $1,450. You're good to go.

But if the residual income came in at less than $1,025, you would need to pay off some bills or lower the purchase price to get under the VA residual requirement.

VA residual income chart

Residual incomes by region

VA-residual-income-less-than-80000

Residual income over 79,900

VA residual income calculation

You can download this spreadsheet from the VA.

VA residual income worksheet

What if my residual income or debt-to-income ratio exceeds the limits?

You must follow each mortgage lender's guidelines; if you do, your loan application may be accepted. It means that your application will be turned down only if you meet all of the requirements.

Depending on the lender, there are ways to prevent having your loan application declined. Suppose such income sources still need to be evaluated for loan qualifying. In that case, the lender might allow you to use income from family members living in the house, for example. This would enable you to reduce the amount of required residual income.

You may also use compensating factors to help you get a VA loan.

The capacity to save three months' worth of mortgage payments or a credit score of at least 720 may be examples.

Rotating question markFAQs About the Debt to Income Ratio for a VA Loan

Q. How Important is Debt to Income Ratio?
A. Debt-to-income ratio is one of the lenders' most essential factors when approving a loan. The debt-to-income ratio measures a person's debt compared to their annual income. A high debt-to-income ratio can indicate that a person is struggling to make ends meet and may be unable to afford more debt. Lenders will often be less likely to approve a loan for someone with a high debt-to-income ratio.

Q. How to Improve the Debt Ratio?
A. There are a few ways to improve the VA Debt to Income Ratio. One way is to increase income, which will lower the Debt to Income Ratio. Another way is to decrease debt, reducing the Debt to Income Ratio. There are also ways to improve the ratio by increasing the amount of housing allowance a veteran receives.

Q. What is a Good Debt to Income Ratio for VA Loan?
A. an excellent debt-to-income ratio for VA loans is 41% or less. Your monthly debts (including the new mortgage) should be at most 41% of your monthly income. Remember that this is just a general guideline; your lender may have stricter requirements.

Conclusion

In conclusion, VA loans are an excellent choice for home purchases. Nevertheless, it is crucial to understand the rules governing the debt-to-income ratio. Remember that lenders will also consider other aspects of your loan application, such as your credit score and ability to pay back the loan. Consult a lender if you are considering applying for a VA loan to learn more about the requirements and determine whether you qualify.

SOURCE: Recommended Reading

  1. How to Get Approved for a VA Loan with a Cosigner
  2. What is a Good Debt to Income Ratio for a VA Loan?
  3. Do VA Loan Require PMI Insurance: What It Is and What It Does
  4. See Surviving Spouse Requirements