What Is a Debt-to-Income Ratio?
Debt-to-Income (DTI) ratio is a financial ratio that compares your monthly debt payments to your monthly gross income. It is commonly used to assess your creditworthiness when it comes to getting qualified for a mortgage. DTI ratio is a financial ratio you should be familiar with on your personal finance journey.
The formula for calculating DTI ratio is your total monthly debt payments divided by your total monthly gross income. When it comes to your total monthly debt payments, rent is typically included to give a better representation of what you can afford, especially when it comes to getting qualified for a mortgage.
For example, let’s say your rent is $1,500, your car payment is $400, and your credit card payment is $100. That equals a total monthly debt of $2,000. For your total monthly gross income, let’s say that it is $6,000. $2,000 / $6,000 = 33%. With a 33% DTI ratio, you are in good shape to qualify for a mortgage. Why is that? Lenders typically seek DTI ratios of no more than 36%. The lower the DTI, the better you stand in the eyes of a lender.
When it comes to your DTI ratio, it is not a complete overview of your creditworthiness. Still, it provides a quick look into your financial health. If your DTI ratio exceeds 36%, what can you do to lower it? Is your car payment too high? Are you making credit card purchases you do not truly need? Take some time this week and calculate your DTI ratio to ensure you are in the financial situation you want to be in when it comes time to qualify for a mortgage.