When exploring your VA home loan option, there are several important moving parts. First, your eligibility for the VA home loan must be determined evidenced by your certificate of eligibility, obtained from the VA. You must also have established a credit history and provide your VA lender with a credit report that shows you have the minimum credit score needed to qualify for a VA loan.
You will also provide proof you can afford the new monthly payments associated with your VA mortgage program with copies of your most recent pay check stubs, W2 forms and federal income tax returns. Sometimes though, your loan amount seems out of reach and you can't qualify. Are there some things you can do to help you get the loan amount you want?
The 41 debt ratio
VA lenders help determine affordability of your new loan by using a tried and true debt to income ratio limit. The debt ratio is calculated by dividing your monthly obligations by your gross monthly income.
For example, if your house payment which includes the principal and interest payment, monthly property tax and insurance payment and any condominium or homeowner association fees is $3,000 and your monthly credit obligations of a car payment and student loan total $700, your total qualifying debt is $3,700. Other monthly expenses such as food, utilities and entertainment are not included in this total.
If your gross monthly income is $10,000, your debt ratio in this example is $3,700 divided by $10,000, or .37. Your debt ratio is 37 and the maximum ratio allowed is 41. In this scenario, you qualify. But what if your income were $8,500? Then your ratio in this example is 44, higher than allowed for a VA loan and you wouldn't qualify. What can you do to reduce your debt ratio to allowable limits?
Adjust Your Loan Amount
The easiest way to reduce your debt ratio is to simply borrow less money. The VA has the lowest delinquency rate of any other loan program in the market today and one of the reasons for its success it its adherence to the 41 ratio guideline.
If your debt ratio is 44 and you need to get to 41, lower your loan amount. This can mean negotiating a lower sales price on the home you want to buy, apply a down payment to reduce your loan or find a less expensive home to buy. Any of these alternatives will reduce your debt ratio.
Adjust Your Term
Another way to reduce your debt ratio is to extend your loan term to the longest available. The most common example of this is when a borrower changes from a 15 year loan to a 30 year loan term.
Interest rates for shorter term loans are lower compared to loans with longer terms but the monthly payments are higher. For example, a 15 year fixed rate at 3.00 percent on a $200,000 loan gives a $1,381 principal and interest payment. A 30 year fixed rate at 3.50 percent yields a $898 payment for a reduction of $483.
Adjust Your Rate
Lowering your interest rate will lower your monthly payment. Your VA lender can provide you with a range of available interest rates along with the discount points needed to lower a rate. One discount point, or “point,” equals one percent of your loan amount.
For example, if a 3.50 percent 30 year fixed with no points has an $898 per month payment, by paying one point, you might lower your rate to 3.25 percent or pay two points and your rate can go to 3.00 percent. A 3.25 percent rate and a 3.00 percent 30 year fixed rate loan lowers your principal and interest payment to $870 and $843 respectively. Sometimes when your debt ratio is just out of reach, buying down your interest rate with a discount point can get you over the hump.
Finally, remember that debt ratios are in place for the specific reason of determining affordability and even though a debt ratio provides limits, don't accept a loan based upon a maximum ratio but instead on your own comfort zone. Just because you can qualify with a 41 ratio, it doesn't you have to borrow that much. Your VA loan should be the right match between buying the home you want that allows you to sleep well at night without worrying about your mortgage payment. The most important debt ratio is the one you select; not what a lender provides you.
Grant Moon is the author of a soon-to-be-released guide on VA loans.