When applying for a mortgage, lenders assess your full financial picture to ensure you can afford homeownership. A utility cost estimate is an important part of this evaluation for certain loan types, notably VA loans.
Lenders typically use two main methods to qualify borrowers: the debt-to-income (DTI) ratio and the residual income calculation. The former focuses on your total monthly debts divided by gross income, excluding everyday living expenses like utilities. The latter, emphasized in VA loans, assesses how much cash remains monthly after paying debts, taxes, and estimated living expenses — including utilities.
For VA loans, the lender estimates utility costs using a standardized formula based on home square footage, commonly $0.14 per square foot monthly, as defined in the VA Lenders Handbook. For example, a 2,000-square-foot home results in a $280 utility estimate. This figure is added to your debts to compute residual income, ensuring you retain enough funds for necessary living costs.
Unlike conventional, FHA, or USDA loans, which do not factor utility estimates into qualifying calculations, VA loans use residual income with utilities included to reduce borrower default risk and promote sustainable homeownership.
It’s wise for homebuyers to seek actual utility bills from the seller to budget accurately, even if the lender doesn’t require utility estimates. Energy-efficient homes can help reduce these long-term costs.
Learn more about
- VA Loans,
- Debt-to-Income Ratio, and
- Residual Income Test (VA Loans)
on FinHelp.io for deeper insights.
Frequently Asked Questions
Do all lenders use utility cost estimates? Only VA loans require them due to the residual income requirement. Most other loan types use the DTI ratio, which does not include utilities.
Can actual utility bills replace the estimate in VA loans? No. Lenders must use the VA’s standardized utility figure to ensure consistency and meet VA guidelines.
Are non-essential bills like internet included? No. Only essential utilities such as electricity, gas, water, and sewer are included in the lender’s estimate.
References
- VA Lenders Handbook, Chapter 4: Credit Underwriting
- Consumer Financial Protection Bureau: Debt-to-income ratio
- NerdWallet: What Is Residual Income and How Does It Affect a VA Loan?
