Applying for an FHA loan is a great option for many homebuyers, especially those with lower credit scores or limited savings for a down payment. However, if you’re carrying debt, you might wonder if you should pay it off before applying. The answer depends on your financial situation, debt-to-income (DTI) ratio, and your overall goals. Let’s explore what to consider when preparing for your FHA loan application.
FHA loans are known for their flexible requirements, but lenders still evaluate your financial health carefully. Two key factors that debt affects are:
Debt-to-Income Ratio (DTI): Your DTI compares your monthly debt payments (credit cards, car loans, student loans, etc.) to your gross monthly income. FHA guidelines typically allow a DTI of up to 43%, but lower ratios are often preferred.
Credit Score: FHA loans have more lenient credit score requirements, with a minimum of 580 for a 3.5% down payment. Improving your credit score can lead to better loan terms and lower interest rates, but you shouldn't let that keep you from applying. For reference, the average credit score of clients who closed in November 2024 was 688.
Carrying too much debt can affect both your DTI and credit score, so it’s essential to understand how these numbers impact your eligibility.
When Should You Pay Off Debt Before Applying?
Paying off debt before applying for an FHA loan can be beneficial in some cases. Here’s when it might make sense:
If Your DTI Ratio Is Too High - Lenders calculate your DTI to assess how much risk they’re taking by approving your loan. If your ratio is close to or above 43%, paying off some debt can bring it down to an acceptable level, making you a more attractive borrower.
If You Want to Improve Your Credit Score - Reducing your credit card balances can lower your credit utilization rate, which is a key factor in your credit score. A higher credit score may qualify you for better FHA loan terms.
If You’re Struggling With Monthly Payments - Paying off high-interest or burdensome debts can free up room in your budget, making it easier to handle your monthly mortgage payment and other housing costs.
When Should You Avoid Paying Off Debt First?
While paying off debt can be helpful, it’s not always the best choice. Here are situations where you might prioritize other financial goals:
If Your DTI Ratio Is Already Low - If your current DTI is well below the FHA limit - Congrats! - paying off debt may not significantly impact your loan approval chances.
If You Have Limited Savings - Paying off debt shouldn’t come at the expense of your down payment and closing costs. For an FHA loan, you’ll need at least 3.5% of the home’s purchase price for a down payment. Use our mortgage calculator to estimate your costs.
If Your Debt Has Low Interest Rates - Debts with low interest rates, like federal student loans, might not be worth prioritizing if they don’t significantly impact your credit score or DTI.
How to Decide What’s Best for Your Situation
To determine whether paying off debt is the right move for you, follow these steps:
Calculate Your DTI Ratio: Add up your monthly debt payments and divide them by your gross monthly income. If your ratio is higher than 43%, paying off debt could help.
Review Your Credit Report: Check your credit score and identify any areas for improvement. Visit our credit score guide for tips on improving your score.
Consult a Mortgage Expert: A professional can review your unique situation and recommend the best course of action. Call us at (813) 340-6223 to speak with a loan advisor today.
What Are Your Next Steps?
If you’re ready to apply for an FHA loan, it’s important to be financially prepared. Whether you decide to pay off some debt or focus on building your savings, having a plan will set you up for success.
At 14 Days To Close, we specialize in helping buyers secure loans quickly and confidently. From evaluating your financial situation to finding the best loan program for your needs, we’re here to guide you every step of the way.
Contact us today at (813) 340-6223 or start your application online at https://www.14daystoclose.com/prequal.