Your debt-to-income ("DTI") ratio is a valuable number when purchasing a home, especially when financing the purchase. The easy part of DTI is what it means... the amount of debt you have vs. the amount of income you make.
How is the DTI ratio used? What is an acceptable DTI ratio when purchasing a home?
Lenders look at DTI during their underwriting. It influences how much they will lend you. There are two main kinds of DTI; front-end ratio and back-end ratio. Both affect lenders' decisions.
Front-end ratio indicates the percentage of income that goes towards housing costs. The "D" in DTI stands for "Debt," but it covers more than debt, including taxes, HOA dues (if applicable), insurance, fees, and insurance premiums, all on top of the principal and interest payment.
Back-end ratio indicates the percentage of income which that goes towards all recurring debt payments, including front-end debts plus credit cards, car payment, child support, student loans, legal judgments, etc.
Currently, DTI limits are as follows:
Conventional loan limits 28/43
FHA loan limits 31/43
VA loan limits 41/41
USDA loan limits 29/41
(The first number represents the (%) limit of the front-end ratio/second number represents the (%) limit of the back-end ratio)
EXAMPLE:
A couple's monthly income is $7,100 (gross monthly income or income before taxes). The couple has two cars, one car is paid off. The second car is financed with a minimum payment of $450 per month. They also use credit cards with minimum payments of $50 (total).
Considering a conventional loan, find their maximum PITI payment considering the couple's monthly income.
This question is a front-end DTI question. $7,100*28% = ~2,000
What purchase price can they afford given their monthly PITI payment? $2,000 PITI Payment = ~$310,000 purchase price
Does their total debt qualify under the conventional loan DTI limits?
$2,000 + $450 + $50 = $2,500 in total recurring debt
$2,500/43% = ~$5,814 They do pass the DTI back-end limit as their monthly income of $7,100 is above $5,814.
-or-
$7,100*43% = ~$3,050 Again, they do pass the DTI back-end limit as the monthly debt of $2,500 is below $3,050.
