Why Is Alimoney Such a Drag?

June 19, 2000 "I make $93,000.00 a year, have good credit, and  my only debt is a $340 monthly car payment. I also pay alimony of $2500 a month.  When I use your affordability calculator and subtract the alimony from my income, I can afford a $200,000 house.  But the lenders I spoke to say that the alimony must be added to my debt. When I do that I can't afford any house. Are they right?"  The lenders are analyzing your situation with long-standing, conventional underwriting rules.  Unfortunately, these rules are poorly designed and sometimes yield absurd conclusions -- as in your case. Lenders want to be sure you have enough income to meet your anticipated housing expenses, including principal, interest, mortgage insurance, property taxes, and hazard insurance. The logical way to do this is to compare your anticipated housing expenses to your net income.  Net income is the income remaining after deduction of other legally-mandated obligations, including taxes, payments on other debt, and alimony.   But that isn't the way it is done.  The practice is to require that applicants meet two qualification tests.  One is a maximum ratio of housing expense (as defined in the preceding paragraph) to gross income.  The second is a maximum ratio of total expense (housing expense plus debt payments) to gross income.   Typical ratios are 28% and 36%.  Taxes are ignored in both ratios but alimony payments are considered debt.   Here are a few of the absurdities this rule can create. Doe and Smith have the same housing expense and the same income but Doe pays 30% of his income in taxes while Smith pays 15% in taxes and 15% in alimony.  Doe passes and Smith flunks. John Doe has a housing expense ratio of 29% but no debt, while John Smith has a housing expense ratio of 28% and debt of 8% (a total expense ratio of 36%).  Doe flunks while Smith passes.   Fortunately, qualification rules are not cast in stone.  They are modified and stretched for special circumstances every day of the week.  There are plenty of lenders and mortgage brokers out there who will work with you to get a deal done.   You just need to cast a wider net. Copyright Jack Guttentag 2002

Jack Guttentag is Professor of Finance Emeritus at the Wharton School of the University of Pennsylvania. Visit the Mortgage Professor's web site for more answers to commonly asked questions.

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