Acquiring a mortgage is considered the single biggest responsibility a person will take on, and it shouldn’t be dealt with casually. Lending institutions many times put themselves at risk granting mortgages on homes, with the uncertainty of jobs in today’s economy. Taking on a mortgage is a life long commitment; some preparation needs to be made mentally and physically.
The first thing that lending institutions normally check for is if you have good credit, this is essential when qualifying for a mortgage. Your lender would first check your credit score; this is a system where numbers are used to represent your credit history. Instead of going through scores of paperwork a number is assigned to you representing your credit history, and the lender then determines if this number is acceptable or not. A credit score is not the deciding factor in you getting approved for home loans. Every lending institution has different standards where credit scores are concerned; the decision lies with them. It is advisable to develop good borrowing habits, always pay loans on time. Try to be responsible with your finances.
Debt income ratio
The second most important thing is your income; they want to know if you can afford a mortgage and for how much. They would check to see what your debt income ratio is. Debt income ratio is a measurement of the percentage of your monthly gross income that covers your loan payment (monthly gross income is your monthly income before contributions and taxes). Another name for debt income ratio is front debt to income ratio, or front end ratios. This indicates to lenders what you can actually afford to pay monthly and from there calculate your entire loan amount. When calculating your debt income ratio lenders keep in mind that there are many other expenses. The figure representing the loan payment is normally kept to a minimum.
Housing expense ratio
Your housing expense ratio is basically the same as your debt income ratio; only difference is the loan payment would cover your entire housing expenses. Housing expenses include your principal, insurance, taxes and interest or for short (PITI). Lenders vary in how they do business, but overall they try to limit the risk of loan defaults by keeping loan payments below, for example, 30% of your income at the end of the month.
How to calculate your mortgage payments
Let’s say your lending institution calculates your housing expense ratio at 29%, your gross income is £3500, in order to qualify for a regular loan, your monthly payments which would include all your housing expenses, would not exceed £1,015.
There are several different types of loans, and each of them dictates a different housing expense ratio. For example, a lending institution might have the housing expense ratio for a FHA loan at 27%, for a VA loan it might be 20%.
These are the deciding factors in you getting the home you desire, or what you can actually afford.