What is the debt ratio? Well, the income-to-debt ratio is the percentage of your income used for expenses versus what you retain as earnings per month. This ratio is important, because your bank will review that resulting percentage figure in order to approve your case. Each loan modification program has a debt ratio range allowed. Most lenders make their decision based on two separate debt ratios – one for your overall expenses (including housing), and one for housing alone.
Here is an example of a housing debt ratio:
* Gross monthly income = $3500
* House Payment (including taxes, insurance, and HOA dues) = $1850
* Housing debt ratio = 1850 / 3500 = 51.4%
Your ratio determines whether or not you are able to afford your monthly payments without defaulting. If the ratio is too low, then your financial situation not considered a hardship, and you will not qualify for a loan modification. If the ratio is too high, you will be considered likely to eventually default. President Obama's plan targets 31% of a modified payment, which includes taxes, insurance, and HOA dues. With the plan, the mortgage payment is reduced to 31% of your gross income. But if the rest of your debts and expenses exceeds 52%, you might have to commit to credit counseling.
Although lenders vary, the acceptable range for meeting the guidelines is 38-45% to qualify for most loan modification programs. By calculating your ratio, you can better prepare for applying, tailoring your budget and expenses to meet the specifications needed to qualify. You are only allowed one chance to apply; therefore you must make the most of that opportunity.