Art of the Smart

Borrowing Beyond Your DTI

Categories: [finance]
Tags: [borrowing]

What do you do when you've borrowed up to your maximum debt-to-income ratio and need more funds? There aren't many options: you need to reduce your debt to income. Here are a few ways to do that.

What lands you in this situation is that you need to borrow money but can't because you've already borrowed as much as the banks care to lend you. Most of the time, that's plenty but you can sometimes land yourself in a tricky situation where you have a lot of home equity built up but cannot unlock it.

Consider the following example. Suppose you make $4,000 per month and spend $1,400 per month on your home and $500/month on your car. At this point, you wouldn't be able to get another loan at a lower rate because your debt to income is $1,900/$4,000 or about 47%. In this example this can be difficult to swallow if your home has $150,000 of equity that you could potentially unlock with a HELOC or other loan option.

What can you do in this case? See below.

Increase Your Income

If only making more money were so easy, but there are actually accounting methods you can use to fix this without having to take on a second job.

  1. Declare all your income. If you have rental properties, make sure you're declaring your income from those in your tax returns. If you have a side hustle, make sure you're filing your taxes for that. I know it's tempting to try to hide it, but you're doing yourself a disservice in the long-run. Keep things above board and you'll find that it's easier to borrow in the long run.
  2. Expense your business costs. Do you use your car for your side hustle? Deduct that gas and mileage expense in your tax return. Do you use a home office? Calculate the proportional square footage it takes up in your house and deduct your interest/taxes/utilities in your tax return.
  3. Have an industrious hobby. People make extra cash in the weirdest places. Dumpster-diving for junk to sell or buying goods cheaply to resell can help you pick up a couple hundred dollars a month. I have a friend to sells cars, musical instruments, and other big-ticket items on consignment for a 10% fee. More than enough to make or break a loan.

Decrease Your Debt

I'm afraid there's no magic secret here. You have to pay back what you owe, but you can be strategic about it.

  1. Start with high-interest debt. Begin paying back the highest interest debt you have and work your way down. Start with credit cards and personal loans that are often in the 8-10% range, and work your way down to mortgage debt. If you have to pay down your loans, you might as well start with the most expensive.
  2. Use operating capital judiciously. This one is a bit more tricky so try to stay with me. Let's assume our scenario above, where you have $150,000 in equity on your home and you're almost able to refinance that cash out except your car payment is holding you back at $300/month. If only you could get rid of that in order to get the cash out refinance loan and add $80,000 to your bank account. So you owe $8,000 on your car. Dang, that's a lot, but you have $10,000 your checking account in order to carry you month-to-month. You use it to pay for gas, the mortgage, the kids, etc. If you're willing to take a little risk, and you're diligent about your paperwork, you could use that $10,000 to pay off the car loan, then you'd have a low enough debt-to-income to refinance the house. Then, a month later, you'd have $82,000 in the bank and a paid off car. Not a bad deal if your interest rate stays about the same on the mortgage. Sure you'll have a higher payment, but that's manageable.

That's the long and short of it. There's no magic remedy but there are ways you can maneuver within what would otherwise be a tricky spot. Stay solvent out there, folks.