Understanding your Debt-to-Income Ratio is an Important Part of Knowing your Financial Options.
You need to learn about your debt-to-income ratio (DTI), if you want to monitor your overall financial situation.
DTI is a formula that compares certain debts you have to your gross income . To calculate your debt-to-income ratio, take your monthly debt payments (for you house, credit cards, and vehicle, student loan, and alimony or child-support) and divide it by your monthly gross income. If you have a debt that you will pay off in 6 months by making your normal payment, it may not be counted in your DTI .
Items such as monthly food expenditures, utility bills, and entertainment expenses are not included in your debt-to-income ratio. Though you clearly have to budget money to pay for these expenses, they are not used by lenders when calculating your DTI.
Debt-to-Income Calculation Example
If you make $4,000/month,before taxes, this is your gross monthly income. Let's assume that you have a car payment of $400/month and a house payment of $1,200/month, and a monthly minimum payment on your credit cards of $250/month. The total of these monthly expenses is $1,850.
To establish your debt-to-income ratio, divide your monthly debt payment by your monthly income. The end result is your debt-to-income ratio.
- Monthly income: $4,000
- Monthly debt payment: $1,850
- Debt-to-income ratio: $1,850/$4,000 = 46%
What Does Your DTI Mean?
Now that you know your debt-to-income ratio, it’s time to discover what your ratio is telling you. If you have a ratio of 30% or less, it means you have a great debt-to-income ratio, meaning your income is significantly more than what you owe. However, if you have a debt-to-income ratio of 44% or higher, it means you are taking on too much debt in relation to your income, in the eyes of mortgage lenders. It used to be the case, before the sub-prime loan market collapsed, that lenders would offer you a loan if your DTI was up to 55%, provided you met the other lending requirements. Today, a DTI above 44% makes it very hard to qualify for a mortgage.
Debt-to-Income Ratio Info graphic
debt-to-income ratio and lenders
lenders calculate and analyze your debt-to-income ratio to determine the size mortgage you can afford. in fact, your dti, your loan-to-value (ltv), and your credit scores are the most important numbers that lenders look at when deciding whether you qualify for a loan or in quoting you a mortgage amount and interest rate.
if are thinking to yourself, should i refinance my home and want to know if you will get the best rates from a refinance lender, make sure that your dti, credit score, and loan-to-value are all strong.
your debt-to-income ratio tells you a lot about your financial health and your chances of qualifying for a mortgage loan. the best thing to do is to keep your debt under control and avoid taking on too much debt. to much debt can prevent you from qualifying for a mortgage and send your finances plummeting.