Should You Be Worried About Rising Debt-To-Income Ratios for Mortgages?
What Are Debt-To-Income Ratios?
Debt-to-income (DTI) ratios have long been used in the lending industry to determine a borrower’s ability to repay. A 40% DTI means that if a borrower makes $10,000 per month, their mortgage payments, car payments, and other debts combined will equal $4,000 per month. Thus, the borrower has $6,000 per month in spending money. While this may sound like a comfortable monthly cushion, the figures change drastically with less income. A borrower making $2,500 per month with a 40% DTI is left with only $1,500 each month.
Even worse, the DTI is calculated with gross income, rather than net. In reality, a borrower in this situation would be left with ~$1,000 per month to cover utilities, cell phone, car insurance, gas, food, and personal expenses. Suddenly, it becomes clear that maintaining comfortable ratios is an essential component of the market’s health.
Increased DTI’s Per Fannie Mae
After bumping up the maximum DTI from 45% to 50% last year, Government Sponsored Entities have seen a large uptick in DTIs over 40% with a significant number pushing 50%. As of March 17, 2018, Fannie Mae updated its Desktop Underwriter software to help the origination of high debt-to-income mortgages, in response to the rising demand.
According to Fannie Mae, the percentage of single-family purchases with a DTI over 45% was only 5% in 2016 and climbed to 10% in 2017. In the 4th quarter of 2017, that figure reached a whopping 20%.
QuestSoft Sees It
At QuestSoft, we are seeing evidence of this inflation of the back-end ratio. In an analysis of 100 recent loans that have PMI, QuestSoft Verifications found that 41% of them had DTIs over 45%, and an incredible 11% had DTIs over 49%. This highlights a massive number of borrowers who are strapped for cash & “house heavy.”
Pushback by The Mortgage Insurers
During the financial crisis, mortgage insurers and lenders were often at odds over the insurance claims resulting from defaulted loans. According to the Financial Crisis Inquiry Commission, by 2010 the nation’s largest PMI companies “had rejected about 25% of the claims brought to them.” The banks fought back against this, arguing that the insurers should be paying a much higher number of claims.
In the end, although some insurers didn’t survive, the remaining insurers and lenders adopted new rules to provide predictable default rates and dependable coverage. These new rules set strict guidelines as to what would and would not be paid out. A few of the nations leading Mortgage Insurance companies have agreed to insure mortgages with a 45-50% DTI as long as the loan meets strict criteria, such as the borrower needing a 700+ FICO score.
DTIs are undoubtedly on the rise, and it will be interesting to see how this plays out in the long run. It is important to note that although DTIs are rising, loans now have more verifications & hoops to jump through than ever before, which can help cushion a few of the fears regarding an extra 5% DTI ratio. The clear guidelines by the Mortgage Insurance companies are also likely to discourage frivolous lending, as no one wants to see their balance sheets in the red.
Even if the increased DTIs do not lead to a higher level of default, they do create more cash strapped borrowers who spend less money in the other aspects of their lives, which can have significant effects on the economy.
QuestSoft Verifications can perform fully documented verifications that meet investor and regulatory guidelines. Give us a call today to learn more!