Qualifying Liabilities

Debts and liabilities tend to have the greatest impact on the applicant’s income qualification. The “Analyzing Employment & Income” article discusses this facet of loan qualification. At the same time, the applicant’s liabilities may also affect the applicant’s credit report; the “Analyzing Credit Report” article discusses this issue. The basic liability qualification requirement of conforming loan programs is that the applicant’s income is strong enough to afford both the proposed mortgage and all of the applicant’s other debts. For most owner-occupied loans, the borrower’s projected monthly debt load should be less than 40% of the borrower’s monthly gross income. Some programs may require total debt loads to be less than 33% of the gross income. If this is a problem, the applicant will have to rely on a no income verification program. The applicant’s liabilities include all demands for repayment—even if payments are not currently scheduled.
Mortgage lenders tend to focus on long-term debts, which are liabilities that will take at least 10 or more months to pay off. One way to improve applicant qualification is to prepay some loans, so as to turn it into a short-term loan.
For example, Wayne has applied for a mortgage loan, but has run into an obstacle. His debt load is just slightly too high for his current income. His biggest liability is his $500/month car loan, which still has a full year remaining. However, by prepaying three months on his car loan, he would reduce the balance to only nine months of payments. His car loan would now be a short-term loan so it would not be considered part of his qualifying debt load.