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Does an MCC reduce your debt-to-income ratio?

Does an MCC tax credit reduce your debt-to-income ratio?

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

A mortgage credit certificate, or MCC, enables you to deduct a portion of your mortgage interest expense -- typically 15% to 50% -- from your federal tax bill. In short, the MCC increased the income component of your debt-to-income ratio which enables you to qualify for a higher mortgage amount.  The MCC does not affect the debt figure the lender uses to calculate your debt-to-income ratio or the loan you can afford.

For example, if you pay $10,000 in annual mortgage interest and you have a 25% mortgage credit certificate, you receive a $2,500 credit that is subtracted from the federal taxes you owe ($10,000 (mortgage interest) * 25% (MCC) = $2,500 (tax credit)). So if you owe $10,000 in federal taxes before the MCC, you pay only $7,500 in taxes after subtracting the MCC.

In this case, the mortgage credit certificate saves you approximately $210 in federal taxes on a monthly basis. This savings also improves your debt-to-income ratio when you apply for a mortgage with the MCC.

If you have $3,000 in monthly gross income, the MCC is added to this figure to determine the mortgage you qualify for. So in this example instead of including $3,000 in monthly income in your debt-to-income ratio, the lender uses $3,210 ($3,000 (monthly gross income) + $210 (MCC) = $3,210 (income including MCC)).

Review our Mortgage Credit Certificate Guide

The higher your monthly gross income, the more you can spend on total monthly housing expense including your mortgage payment, property tax, homeowners insurance as well as mortgage insurance and homeowners association (HOA) dues, if applicable. The more you spend on your loan payment and other housing costs, the higher the mortgage amount you can afford.

The mortgage amount you can afford with an MCC depends on the debt-to-income ratio used by the lender. A debt-to-income ratio is the maximum percentage of your monthly gross income that you can spend on total monthly debt payments including your housing costs and other personal debt expenses.

Please note that your debt-to-income ratio is based on gross income, or your earnings before deductions for taxes, social security, medicare and retirement account contributions. The debt figure is based on your monthly debt payments as opposed to your total debt balance. For example, if you make a $150 monthly payment on a credit card with a $1,700 account balance, the lender includes $150 in your debt-to-income ratio.

The debt-to-income ratio is determined by your mortgage lender rather than the MCC program provider. The debt-to-income ratio for a mortgage usually ranges from 43% to 50% depending on the applicant, lender and loan program. The higher the ratio applied by the lender, the higher the mortgage amount you qualify for.

The example below demonstrates how an MCC impacts your debt-to-income ratio as well as the mortgage you can afford. The example uses a 50% debt-to-income ratio and assumes the borrower makes $6,000 in monthly gross income with $600 in monthly debt payments. We also assume a 25% MCC.

The first scenario below shows what size mortgage the borrower can qualify for without a mortgage credit certificate, which is $400,000.

Mortgage Affordability Without MCC

Monthly Gross Income: $6,000

Debt-to-Income Ratio: 50%

Amount Borrower Can Spend on Monthly Housing Expense and Debt: $3,000

(-) Minus Monthly Debt: $600

Amount Borrower Can Spend on Monthly Housing Expense: $2,400

Mortgage Applicant Qualifies For: $400,000

The example below shows what size mortgage the borrower can qualify for with an MCC. As demonstrated by this case, the borrower can afford a $427,000 mortgage with the mortgage credit certificate. This is because the $4,000 MCC (25% of mortgage interest expense) increases the borrower’s monthly income by approximately $333 per month, which increases the mortgage amount the borrower can afford.

Mortgage Affordability With MCC

Monthly Gross Income: $6,000

(+) Plus Monthly MCC Benefit: $333

Monthly Gross Income Plus MCC: $6,333

Debt-to-Income Ratio: 50%

Amount Borrower Can Spend on Monthly Housing Expense and Debt: $3,166

(-) Minus Monthly Debt: $600

Amount Borrower Can Spend on Monthly Housing Expense: $2,566

Mortgage Applicant Qualifies For: $427,000

This example shows how an MCC increases the mortgage amount you can afford without using a higher debt-to-income ratio. This also demonstrates how a mortgage credit certificate makes owning a home more affordable.

As referenced above, the debt-to-income ratio for a mortgage is set by the lender. We recommend that you contact multiple lenders in the table below to determine the ratio they use and to understand if they have experience working with MCC applicants. It is important that you apply for your mortgage at the same time you apply for the mortgage credit certificate.

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Data provided by Informa Research Services. Payments do not include amounts for taxes and insurance premiums. Click for more information on rates and product details.

Although MCC program providers do not set the debt-to-income ratio, there are usually other program eligibility requirements including the following:

Applicant income and asset limits

The applicant may be required to be a first-time home buyer (not owned a home within the past three years)

Applicant must live in the property

Potential property location restrictions

Potential property type restrictions (e.g., single family residence)

Potential property purchase price limit

MCC programs are administered by state and local housing commissions and program guidelines vary by provider. We recommend that you contact your local housing commission to understand its program eligibility requirements by visiting the HUD website below. Select your state and then click "Learn About Home Ownership" to be directed to information about homebuyer assistance programs in your state.

HUD State Resources Website

Sources

MCC Program Overview: https://www.ncsha.org/resource/mortgage-credit-certificate-program-qa/

MCC Mortgage Qualification Guidelines: https://www.fanniemae.com/content/guide/selling/b3/3.1/09.html#Mortgage.20Credit.20Certificates

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About the author

Harry Jensen, Mortgage Expert

Harry is the co-founder of FREEandCLEAR. He is a mortgage expert with over 45 years of industry experience. Over his career, Harry has closed thousands of loans for satisfied borrowers and now offers his advice and insights on FREEandCLEAR.  Harry is a licensed mortgage professional (NMLS #236752). More about Harry

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