Capacity How Much Mortgage Debt Can You Safely Carry

As you learned in Secret #7, lenders use qualifying and debt coverage ratios to help them determine how much money to loan you. Recall that you can improve these ratios in a variety of ways, such as:

♦ Income. Increase the amount of your qualifying income. Beware: Some loan programs merely require you to state your income (or assets) with no lender verification. These loans are known as "liar's

1 Loan applications used to include spaces for personal references similar to those found on some job applications.

loans." However, if you falsely represent your income (or assets), you commit loan fraud. Contrary to popular belief and practice, stated income loans do not grant you a license to lie.

  • Debt. Decrease the amount of your disqualifying monthly payments.
  • Interest rate. Use a loan program or product that offers a lower qualifying interest rate and/or monthly payment (e.g., ARM, GPM, buydown). Two such loan products that gained wide use during the 2001-2006 property boom were interest-only loans that required no principal payments for 5,10, or even 30 years, and option ARMs with negative amortization. Option ARMs permit (within a wide range) borrowers to select the amount they wish to pay month to month. Although these and similar easy-qualifier loans greatly increase borrowing power, they add greatly to the risk of foreclosure.
  • Compensating factors. List and explain reasons why the lender's methods of calculation understate your ability to pay back the loan.
  • Decrease PITI (MI) (HOA). Because principal, interest, homeowners insurance, mortgage insurance, and monthly homeowners association dues all conspire to increase your qualifying ratios, take aim at each ofthese items. Shop for homes that require lowinsurance, lower property taxes, lower mortgage insurance premiums, or lower homeowners association fees. You can also reduce your qualifying principal repayment through longer terms (say, 30 or 40 years as opposed to 15 or 20), GPMs (Secret #29), and balloon loans (Secret #69).

Recall the most important theme of Mortgage Secrets: Qualifying and affordability depend on you! You need not become a Sister Carrie blown about by the winds of fate. If, after improving your ratios as best you can and you still don't qualify with one lender, switch to another lender or loan program that might accept higher qualifying ratios (or a lower debt coverage ratio).

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