Finance - Camie Leard
Lenders use two corresponding calculations: the housing expense ratio and the debt-to-income ratio to determine the loan amount that a home buyer may obtain.
The housing expense ratio is determined by dividing the monthly house payment (principal, interest, taxes, and insurance) by the borrowers’ gross monthly income.
As an example, if borrowers have a monthly payment of
$1,162 and their gross monthly income is $4,150 (1,162 ± 4,150
= .28 or 28 percent), the borrowers’ housing expense ratio would
be 28 percent, which is exactly the ratio that most lenders like to
An example of debt-to-income ratio is if the borrowers had monthly debts, including credit cards, car payments, alimony, and a house payment of $1,660 (1,660 ÷ 4,150 = 40 percent), the borrowers’ debt-to-income ratio of 40 percent would be slightly higher than the 38 percent that most conventional lenders prefer.
With a ratio of 28 percent housing expense, a 40 percent debt-to-income ratio, a good credit report, and an acceptable property and appraisal, a lender probably would be willing to make this loan.
For the most part, conventional lenders like to see ratios of no more than 28 percent housing expense and 38 percent debt-to- income. With Federal Housing Administration (FHA) and the Department of Veteran’s Affairs (VA) loans (government-guaranteed or insured loans), lenders usually allow ratios to be slightly higher. Their suggested ratios are 29 percent housing expense and 41 percent debt-to-income.
Lenders often refer to the expense ratio as the “front” or “front end” ratio; the debt-to-income ratio is referred to as the “back” or “back end” ratio.
The information in this article was current at 06 Dec 2011