Posted by Elizabeth Dennis on March 6, 2011 | No Comments
Thanks to the housing market collapse, it is now a little harder for those who are self-employed to get a home mortgage. However, if you do plenty of legwork beforehand and have the credit history and income to back up your documentation, the dream of owning a home can still be a reality.
If you self-employed and looking for a mortgage, the first thing you must do is be very honest with yourself about what you can and cannot afford. This is especially true if you are dealing with low or no-documentation loans because it can be easy to fudge the numbers a little bit. You are the only one who truly knows the ebbs and flows of your business and if you can afford the house that you really want.
Once you are certain that you can make the payments, there are numerous things the self-employed can do to make themselves more attractive to lenders. First, you will want your credit score to be the highest it can possibly be. Be sure to get a free credit report and check for any inconsistencies or mistakes and have them corrected immediately. Those with a score over 730 have a better chance of getting a much lower rate, thereby saving themselves thousands of dollars over the course of the loan.
Secondly, put down as much as you can safely afford to do so. This will make you much more attractive to a lender and you will be less likely to walk away from a home with more money invested into it. Next, have some significant savings in the bank. This will show lenders that even if you do fall on hard times, you will have plenty of money to pull from in order to keep up with the payments. In addition, you will want to pay off any consumer debts such as credit cards. This will not only free up money for positive cash flow, but it will make it easier to qualify for a higher loan amount.
Lastly, have an established track record of self-employment. Typically, banks and other lenders will want to see at least two years of documentation.
Speaking of documentation, those who are self-employed will find themselves having to present more of it than traditional workers. Since you won’t have W-2’s to present, you may find yourself having to show at least two years worth of tax returns, profit and loss statements, business credit reports, balance sheets and documentation which shows your income.
It may also be easier to qualify for a loan if your spouse has a traditional job and a W-2 from their employment. Because you will be sharing the house, this provides peace of mind that there is a steady income in which to fall back on if need be.
Lastly, be sure to find a lender, either via a bank or mortgage broker, who specialized in loans for the self-employed. Typically, they will know which type of mortgage will work best for your particular situation and know where to look to get the best rates.
Posted by Elizabeth Dennis on January 12, 2010 | No Comments
By now, you’ve heard all about how your credit rating and score will affect your ability to get a mortgage with desirable terms and the lowest possible interest rate. There exists however, another important piece to the puzzle, and that is your current debt load. It is one thing to know that you’ve paid your past debts one time; but can you continue to do so if you take this new mortgage? Calculating what is called your debt-to-income ratio can give you (and your lender) an idea.
What is a Debt-to-Income Ratio?
A debt-to-income ratio represents a percentage of your income that goes toward paying debts. Think of it as a snapshot of your spending habits. Calculating your debt-to-income ratio is very easy. Take a look:
- Monthly Income = $4,000
- Monthly Debt = $1,000
- Divide $1,000 by $4,000 to get .25
- Your debt-to-income ratio = 25%
What is Included in your Income Number
Let us look in a bit more detail, how we calculated the monthly income number in the above example.
Your debt-to-income ratio is best figured on a monthly basis. Your biggest source of income will most likely be your salary. Debt-to-income ratios are based on gross income (that is before taxes and insurance are taken out of your paycheck). To quickly calculate your monthly gross salary, do so with one of two calculations:
- Take your yearly income and divide by 12
- If you get paid biweekly (every other week), take one pay check’s gross pay and multiply it by 2.17
In addition to your monthly paycheck, include:
- Regular income from alimony and child support
- Averages of bonuses, commissions and tips
- Dividends and interest earnings
- Government benefits and assistance
- Income from a side business
- Other miscellaneous income
What is Included in Your Debt Number
Let us take a look at what is included in your monthly debt number:
- Rent or mortgage payment (including property taxes, insurance, private mortgage insurance and association fees)
- Car payment
- Minimum credit card payments (only minimum due; not balances)
- Student loan payment
- Child support and alimony
- Legal judgments
- Other monthly debt obligations
What is Not Included in Your Debt Numbers
- Food bills
- Entertainment expenses
- Utilities
- Clothing
- Informal personal loans
The Results – How to Interpret Your Number
Once you have calculated your debt-to-income ratio, refer to the following to view that snapshot of your spending habits and financial stability:
- 35% or less: a healthy debt load to carry for most people
- 36% – 42%: pay closer attention to your debt before problems arise
- 43% – 49%: take immediate action as financial difficulties may be imminent
- 50% or more: get professional help to aggressively reduce debt
How Mortgage Lenders Use Debt-to-Income Ratios
Mortgage lenders approach the debt-to-income calculation from the other direction. They strive to offer loans that will keep their customers within a specified debt-to-income ratio range. Your lender will use two different ratios to analyze your situation; one factors in only your new housing expense and the other uses your existing recurring debt plus your new housing expense.
The first type of ratio is what is known as a front-end ratio. This is the percentage allowed for housing expenses only. For conventional loans (we’ll see the limits for other loan types later) the front-end ratio limit is 28%.
From our example above:
- Your monthly income is $4,000
- $4,000 times 28% = $1,120
- The maximum loan the lender should offer is one that converts to $1,120 per month in HOUSING ONLY debt.
So far, your lender has calculated a mortgage payment based on your income and housing debt. He will now turn his focus toward your other recurring debt. This can be a game changer. Your lender wants to make sure you can pay for your new loan and still pay for everything else. He will calculate what is called your back-end ratio. The back-end ratio is a percentage allowed for housing expense plus your other recurring debt. In our conventional loan example, a back-end ratio limit is 36%.
- Your monthly income is $4,000
- $4,000 times 36% = $1,440
- The maximum loan the lender should offer is one that converts to $1,440 per month in TOTAL debt.
- If the difference between the back-end and front-end amounts ($1,440 – $1,120) does not cover your other debts, the lender will need to lower the amount he can offer you.
Ratio Limits by Mortgage Type
The front-end and back-end ratio limits differ depending upon the mortgage type. Conventional loans are defined as any loan that is not backed by the federal government.
- Conventional loans: front-end ratio of 28 and back-end ratio of 36
- FHA loans: 31 and 43
- VA loans:: 41 and 41
- Jumbo, non-conforming loans: 45 and 55
The Way the Ratios are Written (and are Mistakenly Read)
In this article I have written the ratios as “28 and 36”. You will see however, the ratio is more commonly expressed as 28/36. This can be misleading. These numbers represent the front-end ratio and a back-end ratio. We are not looking at a fraction or dividing one number into the other. Though because we are talking about ratios, that could be anybody’s first impression.
Other Tips
- Try running your numbers based on net income (after taxes and insurance) to get a better picture of your situation
- Include all of your monthly expenses in your calculation (remember, the lender will only include formal, recurring debt)
- Run your own ratio before you meet with your lender. Read our article about being a responsible home buyer to see why.
Posted by NewBuyer on January 10, 2010 | No Comments
A valuable primer on private mortgage insurance answering “what is it?” and “what does it do for me?” From the resource: “Private MI enhances a borrower’s ability to attain a homeownership situation that is right for them. Not only can private MI help put people in homes, but it can help put people in homes in which they want to live.”
Source: HSH
Read More About Private Mortgage Insurance at Newbuyer.com
