The Case for Lifestyle Factors in a DTI: perhaps it’s time for brokers to consider other expenditures as part of the affordability equation.
When it comes to advising clients on what mortgage products are affordable, a new approach may be in order. Many advocacy groups and state regulators now insist that lenders apply suitability standards and characterizations before qualifying families for mortgage loans. Thus, it’s potentially appropriate that brokers also factor lifestyle issues into the traditional debt-to-income (DTI) equation for measuring affordability.
In today’s economy, it’s particularly important that consumers have a firm grasp on their household expenses. The growing costs of telephone service, electricity and gas represent a significant budget increase in recent years. We also have seen a well-documented increase in the price of food, clothing and other essentials.
But because these are not considered recurring debts, such as those paid off on a regular or installment schedule, they are not included in the standard DTI ratios intended to identify loan risk. Not considering these everyday expenditures when qualifying clients for a mortgage can pose a problem — such as in the Southwest, where summer utility bills often rival household mortgage debt.
Mortgage brokers who urge prospective borrowers to create accurate household budgets can help their clients realize a true picture of what they can afford. It’s also helpful for brokers, considering automated underwriting systems weren’t designed to consider lifestyle factors and don’t appropriately evaluate consumers’ lives or expenses. Ultimately, encouraging your clients to take a holistic view of their spending can give both of you a better sense of what they can afford.
To better illustrate lifestyle factors’ effect, consider how they affect borrowers, compared to the DTI. Standard Federal Housing Administration loans require that front-end debt, which considers monthly recurring debts, be no greater than 31 percent of gross income. The back-end debt, which considers monthly recurring debts plus housing, shouldn’t exceed 43 percent of gross income.
In other words, a borrower making $5,000 per month would have about $600 allowable per month to spend on housing costs.
That housing cost, however, doesn’t include medical, day-care and entertainment expenses — lifestyle factors that weigh heavily on the amount of money available for a mortgage payment.
The only way for a mortgage broker to determine if a family should qualify for a loan is to examine its actual ability to repay the note. By encouraging their clients to develop a household budget or to seek the assistance of a financial adviser, brokers can help their clients. This may cause some clients to put off buying a home, thus costing a broker’s commission. On the other hand, it establishes a rapport that could pay dividends later.
Prospective borrowers also can turn to nonprofit organizations that focus on helping people budget their money. In addition, most local governments have housing-counseling departments that can help. Stand-ard budget forms are also readily available online and in office-supply stores.
Mortgage brokers also can make sure that their clients don’t buy too much house by working with lenders that develop layered-risk matrixes, based upon typical living expenses for the markets in which they lend. For example, a lender could use a specific matrix for all first-time homebuyers.
Expense data often aren’t hard to find. Utility companies routinely publish data regarding average household consumption, and many consumers can reasonably estimate their transportation and fuel expenses.
Using traditional automated underwriting systems, in combination with these family budgets that account for lifestyle factors, can help lead borrowers to better decisions. With this approach, mortgage brokers and lenders also can help protect themselves from the risks of placing clients into loans they can’t afford.
By Gary Lacefield, president and senior consultant, Risk Mitigation Group
