Does Having a Car Loan Affect Getting a Mortgage?

When considering a mortgage, lenders evaluate a borrower’s complete financial landscape. This comprehensive assessment includes all existing debt obligations to determine repayment capacity. A car loan, like any other installment debt, plays a role in this evaluation, influencing a borrower’s overall financial profile.

The Role of Debt-to-Income Ratio

A significant factor mortgage lenders consider is the debt-to-income (DTI) ratio, which measures how much of your gross monthly income is allocated to debt payments. This ratio is calculated by summing all recurring monthly debt payments, including a car loan, and dividing that total by your gross monthly income. A car loan’s monthly payment directly contributes to the “debt” portion of this ratio, which can impact mortgage eligibility.

While guidelines can vary, many lenders prefer a total DTI ratio below 43% for conventional mortgages, though some may permit up to 50% for certain loan types. A substantial car payment can elevate this ratio, potentially limiting the maximum mortgage amount a borrower can qualify for or even jeopardizing approval. For instance, a $100 car payment could reduce mortgage borrowing power by approximately $20,000.

How Credit Scores Are Affected

A car loan can significantly influence a borrower’s credit score, a metric that mortgage lenders rely on to gauge financial reliability. Making timely and consistent car loan payments can positively contribute to a credit history, demonstrating responsible debt management and improving credit scores. This can be beneficial for individuals with limited credit history, as a well-managed auto loan establishes active trade lines.

Conversely, late or missed car payments can severely damage credit scores. Applying for a new car loan results in a “hard inquiry” on a credit report, which can temporarily lower a credit score. A car loan inquiry and a mortgage inquiry are treated as separate instances, each potentially causing a minor, temporary dip.

Impact on Available Funds

A car loan directly affects a borrower’s available liquid funds, which are essential for a mortgage transaction. The consistent monthly car payment reduces discretionary income that could be saved for housing-related expenses. This reduction in available cash can impede a borrower’s ability to accumulate a sufficient down payment, which typically ranges from 3% to 20% of the home’s purchase price.

Car payments also diminish funds available for closing costs, which are expenses incurred during the mortgage process and usually amount to 2% to 6% of the total loan amount. Lenders often require borrowers to have cash reserves after closing, and a car loan can make it challenging to meet these requirements.

Considerations for Car Loans During Mortgage Application

Reducing the principal balance of a car loan, or fully paying it off, can lower the monthly payment and decrease the debt-to-income ratio, potentially improving mortgage eligibility. Some mortgage lenders may even exclude a car loan from DTI calculations if fewer than 10 months of payments remain.

Taking on a new car loan shortly before a mortgage application introduces a new monthly payment, which immediately increases the DTI and triggers a hard credit inquiry. It is advisable to avoid new large debts, like car loans, in the six to twelve months leading up to a mortgage application, ideally waiting until after the home purchase has closed. Consistent, on-time payments on any existing car loan are crucial for maintaining a healthy credit score, which positively influences mortgage terms and approval. Even if a car loan is co-signed and another party is making the payments, mortgage lenders may still include the debt in the borrower’s DTI calculation.