You know when you buy a home that your credit score matters, but do you see all of the numbers that matter to your financial picture when you’re buying a home? Your debt-to-income ratio is one of the most critical figures that will influence if you can get a mortgage and what type of rate you can get.
What Is A Debt-To-Income Ratio?
This number is exactly what it states: the ratio of debt divided by your gross monthly income. Your credit report doesn't include any of this income information. This number is actually the best way to see if you’re living within your means or not. This way, your lender will know your monthly debt payments along with your monthly income.
If your ratio of debt is high, you may not get a loan or get less desirable interest rates than if you had lower amounts of debt. Even if you have a high credit score, your debt-to-income ratio could affect these things. In reality, a higher debt ratio will make it harder for you to pay back your debt, so it’s important to you.
How It’s Calculated
You can use an online tool to help you calculate your debt-to-income ratio. You can also use a simple formula if you’re up for doing some math yourself:
Divide your monthly debt payments by your monthly gross income then multiply that number by 100. For example:
Student loans: $400
Car loan: $300
1400/4000= 0.35 x 100= 35%
You should also be aware of something called your household ratio. The household is the amount of home-related expenses which includes property taxes, prospective mortgage, home insurance, and more. These costs are divided by your monthly income to get this ratio as well. Obviously, your household debt adds to your financial commitments and is also put into consideration by your lender.
What’s A Good Debt-To-Income Ratio?
It’s ideal that you keep your ratio less than 36%. Your household ratio should be even lower than this. It’s great to be debt free, but in the real world, that’s not always possible. Your best bet is to be responsible with your finances and work on paying your debt down as much as you can. Then, little by little all of the critical numbers that are required to get a mortgage will fall into place.