How Applying for a Car Loan Can Affect Your Mortgage Application

Buying a car and purchasing a home are two major financial milestones, but it’s important to understand how taking out a car loan can affect your ability to qualify for a mortgage. Whether you already have a car loan or are considering applying for one before buying a home, it’s crucial to understand how this can impact your mortgage application—both positively and negatively.

1. How Having a Car Loan Affects Your Mortgage Application

Many people have car loans before they even think about buying a house. While having a car loan doesn’t automatically disqualify you from getting a mortgage, it does affect your debt-to-income (DTI) ratio, which is a key factor lenders look at when approving mortgages.

• Debt-to-Income Ratio: Lenders use your DTI ratio to determine how much of your monthly income is going toward paying off debt. A high DTI ratio can make lenders hesitate to approve your mortgage or may limit the amount you’re approved for. For example, if a large portion of your monthly income is going toward a car loan, it reduces the amount available for mortgage payments. As a general rule, lenders prefer your DTI ratio (including the mortgage) to be no more than 40-44% of your gross monthly income.
• Credit Score Impact: On the positive side, making timely payments on your car loan can boost your credit score, which is a major factor in mortgage approval. A higher credit score typically leads to better mortgage rates and more loan options. However, if you miss car loan payments or have a history of late payments, it could negatively impact your credit score, making it harder to qualify for a mortgage.

In short, having a car loan when you apply for a mortgage can either help or hurt your application, depending on how well you manage the debt and its impact on your DTI ratio.

2. Applying for a Car Loan After Mortgage Pre-Approval

Applying for a car loan after you’ve been pre-approved for a mortgage can significantly impact your ability to get the final mortgage approval or close on your new home. Mortgage lenders pre-approve you based on your financial situation at the time of the application, so any significant changes to your debt obligations can cause problems.

• Increasing Your Debt-to-Income Ratio: One of the biggest risks of taking out a car loan after being pre-approved is that it will increase your debt-to-income ratio. Since lenders want to ensure you have enough income to cover your mortgage payments, a new car loan could cause your DTI ratio to exceed their acceptable limits. This could lead to a lower mortgage amount or even the rejection of your mortgage application.
• Credit Score Fluctuations: Every time you apply for new credit, such as a car loan, it triggers a hard inquiry on your credit report, which can temporarily lower your credit score. This decrease in your score could affect your mortgage approval, especially if you were already on the edge of qualifying. Lenders typically review your credit score again before closing the mortgage, so any changes could lead to delays or require renegotiation of your loan terms.
• Delaying the Home-Buying Process: If your lender finds out about the new car loan during the underwriting process, it may delay your home-buying timeline. Lenders could require you to submit updated financial information, provide a new DTI calculation, or even reapply for a mortgage based on your new financial status.

3. How to Approach a Car Loan When Planning to Buy a Home

If you need to take out a car loan but also plan to buy a home in the near future, it’s important to carefully consider the timing and impact on your mortgage approval. Here are some tips:

• Consider Postponing the Car Purchase: If you can, it may be worth waiting until after you close on your new home to apply for a car loan. This way, you won’t risk your mortgage pre-approval and can plan for a car loan based on your new mortgage payments.
• Check Your Debt-to-Income Ratio: Before applying for a car loan, calculate how it will affect your DTI ratio. Make sure the loan won’t push you beyond the acceptable DTI limits for a mortgage lender. If the loan will increase your DTI ratio too much, consider choosing a less expensive car or making a larger down payment to reduce the loan amount.
• Communicate with Your Lender: If you must take out a car loan before purchasing a home, communicate with your mortgage lender. They can help you understand how the loan will affect your mortgage application and advise you on how to proceed to avoid jeopardizing your mortgage approval.

4. Avoiding Financial Missteps Between Pre-Approval and Mortgage Closing

The time between mortgage pre-approval and closing is critical. During this period, it’s essential to avoid making significant changes to your financial situation. Taking on new debt, such as a car loan, can throw off your financial profile and potentially derail your home purchase. Here are key tips to keep in mind:

• Don’t apply for new credit or loans before closing on your mortgage.
• Avoid large purchases that could increase your debt or affect your savings.
• Maintain your current employment and income situation.
• Continue making all debt payments on time to protect your credit score.

Conclusion

Applying for a car loan can have both positive and negative effects on your mortgage application, depending on your financial situation and the timing of the loan. Managing your car loan responsibly and being aware of its impact on your debt-to-income ratio and credit score is crucial when planning to buy a home. If you’re considering a car loan and a mortgage simultaneously, make sure to communicate with your mortgage lender to avoid any last-minute surprises that could affect your ability to close on your new home.

If you have any questions about how your current debts, including car loans, might affect your mortgage approval, contact us at Mortgages for Less. We’re here to help you navigate the process and make informed financial decisions!