One of the most important qualifying factors for the loan modification process is the debt-to-income (DTI) ratio. If you can understand this concept and how will it apply to your unique circumstances, then you can increase your chances of being approved for a home loan modification. The reason is that your bank focuses on certain important ratios while analyzing your loan for modification. It is up to the bank to decide whether to approve your loan modification application or not.
These ratios are important because the banks use them to determine the new target payment, which is premised upon the percentage of your gross income. If the loan modification is doable and the bank too agrees to modify your loan, then it will want to see convincing evidence of the fact that you can afford to cope with the new target payment. However, if the target payment isn’t sustainable according to the defined DTI, then your chances of loan modification seem gloomy.
There is a foreclosure prevention plan called ‘HAMP’ program laid out by former President Barack Obama in which the person can qualify if the bank conducts income documentation, which is also known as income validation. The bank just needs to see if the borrower’s monthly payment ratio is greater than 31% of his/her gross income before the modification. In case, it is lower, then the person won’t be eligible for the program. House mortgage payment or PITIA comprises principal, interest, insurance, taxes, and association dues. PITIA doesn’t include mortgage payments on 2nd and 3rd liens. In the context of loan modification, front-end debt-to-income means the monthly mortgage payment divided by the monthly gross income of the borrower.
What is the HAMP program?
The HAMP program allows the affordable house payment after the modification process to go between 31 and 38% of the front-end DTI of the homeowner. So, the mortgage payment, which consists of principal, insurance, taxes and association fees (PITIA) on the first home loan can’t be higher than 31-38% of the monthly gross income of the family.
Recommended Front-End Debt-to-Income for HAMP & Private Loan Modifications
For HAMP – the front-end DTI ratio must fall between 31-38% upon the completion of the modification process.
For Private Loan Modifications – The ratio in private loan modifications can fluctuate depending upon the lender’s requirements. However, the range stays between 31% and 42%
What is Back-End Debt-to-Income?
Back-end DTI is determined after calculating the sum of all monthly payments related to debts. You can utilize your newly decreased mortgage payment to find out the suggested back-end DTI along with all your pre-existing debts. If your application qualifies for a loan modification based on HAMP parameters but has back-end DTI equal to or greater than 55%, then you will be told to get in touch with a HUD (Housing & Urban Development) approved counselor. The modification won’t become operational unless you sign a statement confirming your agreement on getting financial counseling.
Importance of Debt-to-income ratios
Your financial qualification will decide your loan modification approval, which is why lenders use DTI ratios to decide whether you can pay your debts or not. These ratios must fall within certain limits to avoid the risk of default along with ensuring that your expenses and debts do not overwhelm you. Since DTI ratios play a crucial role in deciding your loan modification approval, you must consult a professional like PIF Lending to know more about it.