Do you have to pay for your car before buying a home? | Mortgages and advice

Buying a home is a major financial commitment, both for you and the mortgage lender. As a result, underwriting criteria can be stringent. There are many factors that lenders take into consideration, but your credit score and debt-to-income ratio are among the most important.

Paying off a car loan can help you improve your preparation for a mortgage, but it may not necessarily be the right decision. Here’s what to consider before proceeding.

Do I have to pay for my car before buying a house?

The debt-to-income ratio, DTI for short, is a critical factor in determining your eligibility for a mortgage, as well as how much you can borrow. This ratio measures the amount of gross monthly income that goes toward debt obligations in the form of a percentage.

For example, if you have $1,200 in monthly debt payments and a monthly salary of $5,000, your DTI is 24% (1200/5000 = 0.24). Mortgage lenders typically prefer a DTI of less than 43%, although some loan programs can go as high as 50%.

“A car loan is treated like any other installment debt in a DTI account,” says Mike Tason, co-founder of Own Up, a mortgage technology company.

If your DTI is too high, paying off one of your loans will likely lower it enough to improve your chances of getting approved for the home you want. But there are a few things to consider first:

  • Your DTI: If your DTI is less than 43% and your expected mortgage on the new home won’t change that, you may not have to worry about paying any debts before you buy your home.
  • Your budget: Your DTI is an important metric, but it doesn’t necessarily tell you the full story about your financial situation. If you think getting a new mortgage payment could increase your budget too little, paying off a car loan or other debt—or buying a less expensive home—may be the right move.
  • loan payment: Find your car loan payment and compare it to all your other debt payments. If you have a larger down payment on a loan or other credit card, it may be a good idea to pay off that account instead.
  • Your cash reserves: Any money you put into your car loan is money that you can’t use for down payment or emergency expenses. Depending on the type of loan you are trying to obtain, the lender may have a cash reserve requirement. Also remember that you cannot get this money back once it has been paid. “If you need to spend more money than you expected, you can put yourself in a less-than-ideal position if you just paid the extra money for your car,” says Austin Horton, director of commercial operations at Homie.
  • Your credit score: Paying off a loan can sometimes cause a temporary drop in your credit score. If your score is very high, it may not matter. But if it’s low enough that every point counts, it might be worth waiting.

One alternative to paying off a car loan is to pay off just enough balance for the lender to ignore. “One of the nuances with installment debt is that most lenders won’t include debt payments with 10 or fewer monthly installments remaining,” Tason says.
If you’re not sure if you should pay off your auto loan to reduce your DTI or relieve some of the pressure on your budget, consider consulting a mortgage professional who can give you a good idea of ​​how loan repayment will affect your situation and creditworthiness.

How about buying a car before buying a home?

Another decision you may face is whether to buy a car shortly before buying a home. Your current car may be on its last legs, you may be out of a lease, or you may simply want something different.

If you’re considering applying for a car loan to finance your purchase, mortgage experts generally recommend that you avoid applying for new credit in the months leading up to your mortgage application. This is especially true if the new loan increases your DTI compared to your existing auto loan.

Even if you plan to buy the entire car, this money again will not be able to spend on your new home. Depending on your cash situation, this may affect your approval or make it difficult to cover emergency expenses after you arrive in your new home.

While some financial experts might say don’t buy a car before buying a home, here are some things to keep in mind:

  • timing: If you don’t plan to buy a home for another 12 months or more, a credit inquiry and a new loan account may not have much effect on your mortgage approval. If you’ve already started the mortgage process, says Tasoni, “we recommend waiting when opening any non-core debt to make sure it doesn’t jeopardize your ability to qualify for financing.”
  • Your DTI: If your new car loan doesn’t affect your DTI much, you may be in the clear.
  • cash reserves: Buying a car with cash may not have much of an impact – if you still have money left over for a solid down payment and emergency reserves. But keeping your money for now can be a good move. “Having more reserves when buying a home can help you get approved when you don’t get one under different circumstances,” says Horton.

As with the decision to pay off a car, consider talking to a mortgage professional to get an idea of ​​how buying a new car will affect you.

Should I Refinance My Car Before Buying a Home?

Refinancing your existing car loan can affect your mortgage approval for better or worse, depending on the situation.

Inquiring about difficult credit and a new loan account may not have much of an impact, but if you can qualify for a lower monthly payment, either by securing a lower interest rate or extending your repayment period, it may help improve your DTI and make it easier. you to buy a house.

Additionally, if you owe less than the value of your car, some auto lenders allow you to cash back your car loan and get a portion of that equity in cash. You can use this money however you like, including the down payment on your new home.

However, refinancing the cash for your auto loan will increase your loan amount by the amount of cash you receive and may also result in a higher monthly payment, affecting your DTI.

So, again, it’s a good idea to talk with your mortgage broker or loan officer to understand how refinancing your car loan can help or hurt your chances of getting the home you want.

Make sure you’re credit ready for a mortgage

  • Check your credit score: Conventional lenders usually look for a score of 620 or higher, but the higher it is, the better your chances of getting approved at an affordable interest rate. You may be able to check your FICO score for free through your bank, credit card company, or through Experian, one of the three major credit bureaus.
  • Review your credit reports: Visit and get a copy of your three credit reports. Read your reports to make sure you know all the accounts. If you don’t recognize anyone or find inaccurate information, you may be able to dispute it and remove it from your reports.
  • Pay off small debts: If you can pay off a loan or credit card without affecting your down payment and contingency reserves, do so to reduce your DTI.
  • Avoid opening new credit accounts: Try to avoid opening new credit accounts, including loans and credit cards, unless approved by a mortgage broker or loan officer.

If you can afford it, take longer to prepare. While it may be tempting to get into the house as quickly as possible, improving your credit can help you save thousands or even tens of thousands of dollars on your mortgage.

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