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Your guide to debt-to-income ratio

Understand the number lenders use to predict your ability to repay a loan — and how to swing it in your favor.

Your credit score isn’t the only thing you need to worry about when applying for a new credit card or loan. Having a good debt-to-income ratio (DTI) is also key to qualifying, and understanding it can set you on the path to getting better interest rates or loan terms.

What is a debt-to-income ratio?

A debt-to-income ratio is the number of debt repayments you make each month divided by your income. Lenders use your DTI as one way to make sure you’re in a position to afford to repay a new loan.

Typically, underwriters figure out your DTI themselves. But knowing your ratio before you apply can help you tell if it’s a good time to apply for a loan or credit card. If your ratio is too high, you might want to consider paying off some debt first to avoid high rates or rejected applications.

What is a good debt-to-income ratio?

The lower, the better. More specifically, a DTI of 35% or below is generally considered good — though you might not qualify for a loan with a DTI that’s above 43%.

Why 43%? Lenders came up with this number from mortgage-risk studies that analyzed the type of borrowers who are most likely to have trouble making payments and therefore default on their loans.

Your DTI is a factor lenders consider when determining the rates and terms of your loan. In general, you’re more likely to get a good rate with a lower DTI.

Does my DTI affect my credit score?

Your debt-to-income ratio isn’t included on your credit report and doesn’t directly affect your credit score. However, lenders do consider it before extending credit, including mortgages and auto loans. Credit card companies also use DTI to determine your credit limits.

However, carrying rotating debt — such as a high balance on your credit cards — affects your credit utilization ratio. This is one of the most important factors in calculating your credit score.

Generally, it’s best to keep your credit utilization below 30% on all credit cards. The lower, the better.

Calculating your debt-to-income ratio

Determining your debt-to-income ratio can help you understand your current financial health and how much debt you can comfortably take on.

To calculate your DTI:

  1. Add up your monthly total debt. Your debt includes minimum credit card payments and regular monthly payments on personal loans, student loans, car loans, mortgages or any other type of loan. Expenses like groceries, utility bills, streaming services and insurance don’t count as monthly debt.
  2. Determine your gross monthly income. This is your income before taxes or deductions are subtracted. Income includes your salary as well as tips or bonuses, pensions, retirement account distributions, Social Security benefits, alimony and child support.
  3. Divide your total monthly debt by your gross monthly income. The result is your debt-to-income ratio.

Can unpaid bills affect my DTI?

They might. While monthly expenses are not typically factored into your monthly total debt, unpaid bills sent to a collection agency count as debt and can affect your DTI. These unpaid bills, which include utility bills and medical bills, can also lower your credit score, showing up as a line on your credit report and making it more difficult to get financing.

Your lender didn’t ask about your debt or income? The offer could be a scam.

If your lender doesn’t want to know how much you owe or earn, it’s a sign it might be predatory.

If you come across a lender that markets itself in this way, make sure it’s legit before signing on. Read online reviews, check out its accreditations and confirm that it’s not on lists of lenders to avoid according to state consumer protection agencies and the Consumer Financial Protection Bureau (CFPB). Look at its ratings with the Better Business Bureau (BBB) and take heed of any complaints.

How to avoid a personal loan scam

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How can I lower my DTI ratio?

Americans’ debt burden has been high for a while now: A recent Federal Reserve report estimates the average American household carries $137,063 in debt. You’re probably not alone if your debt-to-income ratio is above or close to the 43% cutoff.

Here are some ways you can tamp down your DTI.

  • Pay off your loans ASAP. Getting rid of even one larger monthly debt expense can make a huge difference in lowering your DTI. But understand your loan’s prepayment policy before making any extra repayments. Some come with penalties for paying early, while others require that you follow a specific procedure for successful payoffs.
  • Creatively boost your income. You don’t necessarily need to take on a second job to make extra money. Bringing in more cash could be as simple as opening up an eBay store, selling old records or writing online reviews.
  • Pay off (or at least pay down) your card balances. Pay what you can beyond your monthly minimum due. The larger your balance, the higher your monthly payment — ultimately increasing your DTI.
  • Consolidate your debt. Balance transfer cards or debt consolidation loans at a lower rate can make it easier to retire your debt quickly because you won’t have to pay as much on interest.
  • Rent instead of buy. Renting your home isn’t always a smarter financial move in general. But when it comes to keeping your DTI low, it could be: Rent doesn’t count as a debt, whereas mortgage payments do.

Front-end ratio vs. back-end ratio

Your front-end debt ratio is how much of your gross monthly income is spent on housing costs, including mortgage payments and private mortgage insurance. Your back-end debt ratio includes all other kinds of debt, including student loans, car loans and minimum credit card payments.

Higher ratios increase the likelihood of defaulting on your mortgage or other debt. Lenders usually prefer a front-end ratio of no more than 28% of your total monthly gross income and a combined ratio of no more than 43% — though some lenders cap this at 36%.

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4 Responses

    Default Gravatar
    SherriJuly 23, 2019

    What should I do if I have 4 high balences in credit cards. I want to improve my score.

      Default Gravatar
      nikkiangcoJuly 24, 2019

      Hi Sherri,

      Thanks for your question!

      One way to improve your credit score is to pay off high-interest debts to lower your debt-to-income ratio.

      If you have multiple credit card debts, you can consider consolidating them with a balance transfer or a loan. That way you’re only managing a single account and likely at a lower interest rate, which could help you save and pay off your accounts faster thus improving your credit score.

      As a reminder, consolidation loans and balance transfer credit cards are not for everyone so please weigh your options carefully to see whether it is right for you.

      Hope this helps!

      Best,
      Nikki

    Default Gravatar
    MelissaOctober 20, 2018

    How can I turn my title loans and payday loans in to one payment that I can afford

      AvatarFinder
      AnndyOctober 22, 2018Finder

      Hi Melissa,

      Thanks for your question.

      You can take advantage of a debt consolidation loan to have one payment for your existing loans. Click on the link and once you’re on the redirect page, please enter your credit score range and state of residence in our comparison tool to start comparing. Also, please be sure to check the relevant terms and conditions and eligibility criteria of the loan before submitting your application.

      I hope this helps.

      Cheers,
      Anndy

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