The Consumer Financial Protection Bureau set in place a new regulation this year that requires lenders to verify a home buyer’s capacity to pay back their mortgage before issuing them a loan.
If you’re thinking about taking out a home loan this year, then you will be impacted by this rule in some way. But before we go over the specifics of what the ability to pay rule requires, let’s first examine how we got to this point in the first place.
Where the Ability to Pay Rule Came From?
The ability to pay rule is part of a larger set of financial regulations from the Dodd-Frank Act designed to help prevent another financial crisis. By making lending standards stricter, it makes it harder for lenders to issue loans to unqualified buyers.
Advertisement
Prior to the financial crisis many loans were being issued that didn’t properly gauge whether the borrowers would be able to pay them back. Underwriting standards were a bit loose which may have been good for investors, but the system ultimately wasn’t sustainable.
Home buyers would get loans with very attractive teaser rates only later to see those rates spike over time. Many people had difficulties coming up with the money for their ballooning payments and some of those buyers ended up defaulting on their loans and went into foreclosure.
Being Able to Pay
Getting any type of loan typically means that you’ll need to provide the borrower with a fair amount of paperwork. And that is certainly true when a lender is looking to determine if you will be able to pay back your loan. Below are the 8 types of information that a lender will have to consider in order determine if you can successfully pay back your loan. Be sure that you have paperwork which can help verify the following:
1. Keep track of your current income and total assets. This includes stock options you hold as well as other physical items such as property.
2. Where you have been employed
3. Your credit history
4. The monthly payment for the mortgage
5. Your monthly payments that you make on any other existing mortgage loans.
6. Expenses that you’re paying on other mortgages such as property taxes.
7. Debts that you are responsible for
8. Your debt-to-income ratio is also taken into consideration. Your debt-to-income ratio is determined by comparing all of your current expenses including payments on debts with your income. So, for example, if you’re paying $500.00 worth of bills every month and you’re making $1000.00, then your debt-to-income ratio would be 0.5 or 50%.
Keep in mind that if you’re thinking about getting an adjustable rate mortgage, lenders are no longer able to determine your ability to pay by factoring in only the teaser rates. Lenders must judge your ability to pay back an adjustable rate loan presuming that the interest rate on the loan became as high as it could possibly be. So, just because you might be able to pay back a 4% loan doesn’t mean you’ll also be able to pay back a 12% interest rate loan a year from now.
