How does a personal loan affect your ability to qualify for a mortgage?

By Harry Jensen, Trusted Mortgage Expert with 45+ Years of Experience

Edited by Michael Jensen, Mortgage and Finance Guru

Updated October 20, 2021

A personal loan affects your ability to qualify for a mortgage in two main ways. First, the monthly payment for the personal loan is included in your debt-to-income ratio when you apply for a mortgage.

Lenders apply a debt-to-income ratio that limits what percentage of your monthly gross income you can spend on debt expenses including your mortgage payment, property tax, homeowners insurance plus payments for credit cards as well as car, student and personal loans.

Debt-to-income ratios vary by lender and loan program but typically range from 40% to 50%. The higher the debt-to-income ratio, the higher the mortgage amount you can afford.

For example, if the lender uses a debt-to-income ratio of 45% and you earn $5,000 in monthly gross income, you can spend $2,250 on total monthly debt expenses including your mortgage and personal loan payments. If the lender uses a higher debt-to-income ratio, the amount you can spend on monthly debt expenses increases and you qualify for a higher mortgage amount.

Including the monthly payment for your personal loan in your debt-to-income ratio may decrease the mortgage amount you can afford. In short, the more money you spend on your personal loan payment, the less money you have available to spend on your mortgage and the lower the loan amount you qualify. If your personal loan payment is too high, you may not be approved for the mortgage amount you want.

Use ourMORTGAGE QUALIFICATION CALCULATORto determine what size mortgage you can afford based on your income and debt expenses

There are some scenarios, however, when a personal loan can actually help you qualify for a mortgage or enable you to afford a higher loan amount. This outcome is possible if you use a personal loan to pay off higher cost debt such as credit card bills.

For example, if you use a personal loan with a lower interest rate and $200 monthly payment to pay off a credit card account with a higher rate and $350 monthly payment, you reduce your total monthly debt expense by $150. That means you can spend $150 more on your mortgage payment and qualify for a higher loan amount.

In this scenario, instead of hurting your ability to qualify, the personal loan improves your debt-to-income ratio which helps you get approved for the mortgage or afford a higher loan amount.

Simply put, it all depends on how you use the personal loan proceeds. If you use the proceeds to lower your total monthly debt expense, then the personal loan can be beneficial when you apply for a mortgage. If the personal loan is used for other purposes and increases your total monthly debt expense, it may be more challenging for you to qualify.

The other way a personal loan can impact your mortgage application is if it affects your credit score. In some cases when you apply for a loan, your credit score dips at least temporarily, depending on your overall credit usage and other factors.

A drop in your credit score can impact your mortgage terms and the loan programs available to you. For conventional loans, the lower your credit score, the higher your mortgage rate. Paying a higher rate increases your monthly payment and reduces the loan you qualify for.

If your score decreases too much, which is unlikely to happen with a personal loan, you may be ineligible for certain mortgage programs.

This is why if you are considering taking out a personal loan we recommend that you apply for the loan at least two-to-three months before you apply for a mortgage, if possible. This timing should give your credit score time to recover from any dip, assuming you make your monthly loan payments on time.

To summarize, a personal loan can both positively and negatively impact your ability to qualify for a mortgage. As long as you take into consideration how the loan can affect your debt-to-income ratio and credit score, you should be able to get approved and in some cases the loan may actually help you get approved for a mortgage.

The table below shows mortgage rates and fees for top-rated lenders near you. We recommend that you contact multiple lenders to confirm the loan you qualify for and to find the best mortgage terms.

Sources

"B3-6-02, Debt-to-Income Ratios."  Selling Guide: Fannie Mae Single Family.  Fannie Mae, February 5 2020.  Web.