When applying for a loan, the Lender will look at all available resources to determine a borrower’s ability to repay the loan. Aside from just credit score, the Lender will also look at a borrower’s debt to income ratio, which is all of a borrower’s monthly debt payments divided by his/her gross monthly income. It’s straight forward but your debt-to-income ratio (DTI) is the other component that a Lender will analyze when extending credit to determine the potential risk associated with the loan.
The higher your debt-to-income is, the less likely you may be to pay back the loan payments in a timely manner. The lower the debt-to-income, the more likely you will be to pay the monthly payments on time. What is your debt-to-income ratio?
In order to calculate your debt to income ratio, it is helpful to understand the following terms and how they apply to our finances:
Your Annual Income is the total income received for the year before taxes. This includes a salary, commission, bonus, rental income, etc. You can also use any alimony or child support, if applicable.
If you are self-employed, your annual income will be based on your total annual income after any deductions that are claimed on the End of year Schedule C.
For this, you add up all your monthly payments for any automobiles, boats, recreation vehicles, etc.
Credit Card Payments:
Although you may pay more than your minimum monthly payment on your credit card(s) each month, your lender is only required to count the minimum monthly payment, when considering your monthly debt. They do not need to count the balances or payments on credit cards that you will pay off at the end of each month.
If you have any existing mortgages that will still be in place after purchasing your new property, they will need to be added in to your monthly debt. Any taxes and/or insurance on any financed properties, or properties owned will also need to be included on your monthly debt.
Other Loan Obligations:
If you have any other required monthly debt obligations, this is where you would add them. Other debt obligations would be payments like student loans, alimony and/or child support, personal loans or any other loan that requires a monthly payment.
*** The graph will have the following text depending on what their DTI is.
If DTI is lower than 36% – Your DTI is very good! Looks like you have good control on your current finances!
If DTI is above 36% but below 43% – Your DTI is high, but likely eligible for a loan. Your finances are close to being maxed out. Be careful!
If DTI is above 43% but below 50% – Your DTI is very high. Your finances appear to be maxed out. A new loan is possible, but it will require some patience.
If DTI is above 50% – Your DTI is too high and not likely to be able to obtain a new mortgage.