You probably know that mortgage lenders look at your credit before moving forward with your mortgage application. But, did you know that they look beyond the credit score? While it’s true that they need your credit score to be within a certain range in order for you to be eligible for certain programs, lenders also care about your credit history.
Lenders want to know what types of debt you have and how much you still owe on those debts. These debts play a role in your ability to pay your mortgage back. If you have too many debts or too much of a certain type of debt, you may find that a lender won’t give you a mortgage.
Keep reading to see which debts affect your mortgage application the most.
Car Loans and Mortgage Eligibility
Car loans are what lenders call secured credit. If you stop making your car payments, the lender can repossess your car. While there’s still a risk of loss, it’s not nearly as big as an unsecured loan would present.
Mortgage lenders look favorably upon car loans for two reasons. One, car loans can be a bit tricky to get. Lenders don’t just dole them out – you have to qualify for the loan. If you do qualify and you pay the loan on time, it may look favorable to a mortgage lender. They can see that you can handle financial responsibility and don’t give up on your payments the moment things get a little ‘tight.’
Credit Cards and Mortgage Eligibility
Credit cards are the opposite of car loans – they are unsecured. In other words, the credit card company doesn’t have any collateral they can take from you should you default on your loan. While it’s true the credit card company can sue you or place a judgment on you, it takes a lot of time and resources to get to that point. This makes credit card debt risky for the credit card companies.
To a mortgage lender, though, credit card debt can have a positive effect. If you pay your bills on time and pay more than the minimum required payment, it can work in your favor. You can show lenders that you are financially responsible because you pay your bills on time and that you don’t leave a large amount of the debt outstanding each month.
How much of your credit card balance that you have outstanding does play a role too, though. If you max out your credit line, lenders may feel that you are financially irresponsible. If, instead, you charge a fraction of your available credit line and then pay it off in a timely manner, lenders may look at you as a financially responsible borrower.
Student Loans and Mortgage Eligibility
Student loans are a double-edged sword. If you have them and you make the payments on time, it could be a good thing. Mortgage lenders will see that you can handle these debts favorably. This is especially helpful for young adults just starting out in life. Student loans can help you build up your credit, giving lenders even more reason to give you a mortgage.
If you have deferred student loans, though, it could work against you. Even though you don’t have payments due now, they will become due eventually. Each loan program and lender look at deferred student loan payments differently. Some lenders require that 1% of the loan amount be used for payment calculations. This could hurt your debt ratio and make you ineligible for a mortgage. If you have a lender that will use the actual payment and it fits within your debt ratio, though, you could have better luck.
Your Debt Ratio is What Matters
In the end, it’s your debt ratio that matters the most, after your credit score. If you have the credit score necessary for a loan program, chances are that a lender will continue processing your application. This will prompt the lender to look at your credit history and determine how much of your income is already spoken for each month. In other words, what outstanding debts do you have that you must pay each month? The lender needs to make sure that there is enough room to fit in a mortgage without making your total debt ratio too high.
Debt ratios can typically go up to 43%. This means you can spend up to 43% of your gross monthly income on your monthly obligations, including a mortgage. If your DTI is much higher than that, you will likely find that you can’t find a lender that will approve your loan.
The best thing you can do is get your debts in order before you apply for a mortgage. Pay off as many debts as you can. Also, try to keep your debts within a reasonable amount of your gross monthly income. You’ll need at least 28% – 30% of your gross monthly income for a housing payment that leaves between 10% and 12% of your income for ‘other bills.