What is Debt-to-Income Ratio and Why Does it Matter?
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If you are applying for a home loan, you may have heard the term “debt-to-income” ratio or DTI. So, what is a debt-to-income ratio and why does it matter so much if you are getting a home loan?

In this video we will explain what debt-to-income is and why lenders care so much about it.

Why is debt-to-income ratio important?

Your debt-to-income ratio is all your monthly debt payments divided by your gross monthly income. This number is one-way lenders measure your ability to manage the monthly payments to repay the money you plan to borrow.

To calculate your debt-to-income ratio, you add up all your monthly debt payments and divide them by your gross monthly income.

Your gross monthly income is generally the amount of money you have earned before your taxes and other deductions are taken out.

For example, if you pay $1500 a month for your mortgage and another $100 a month for an auto loan and $400 a month for the rest of your debts, your monthly debt payments are $2,000. ($1500 + $100 + $400 = $2,000.) If your gross monthly income is $6,000, then your debt-to-income ratio is 33 percent. ($2,000 is 33% of $6,000.)

Evidence from studies of mortgage loans suggest that borrowers with a higher debt-to-income ratio are more likely to run into trouble making monthly payments.

The debt-to-income ratio is important because it tells the lender how much money you have left over to pay all of your other monthly expenses.

What is a good DTI ratio?

A good target for a DTI is below 36%.

But you can qualify for a mortgage with a higher DTI. The requirement will vary by the lender and type of mortgage.

Ideally, though, you’ll want to keep your DTIs as low as possible, regardless of lenders’ limits. Paying down debt will help improve your credit score, and a higher credit score and lower DTI ratio will help you get a better mortgage interest rate.

DTI Isn't A Full Measure Of Affordability
Although your DTI ratio is important when getting a mortgage, the number doesn't tell the whole story about what you can afford.

DTIs don't take into account expenses such as food, health insurance, utilities, gas, and entertainment, and they count your income before taxes, not what you take home each month.

You’ll want to budget beyond what your DTI labels as “affordable,” and consider all your expenses compared with your actual take-home income.

If Your DTI Is High
The higher your DTI ratio, the more likely you are to struggle with qualifying for a mortgage and making your monthly mortgage payments.

Pay Off Debt
To lower your DTI ratio, pay off as much of your current debt as possible before applying for a mortgage. In most cases, lenders won’t include installment debts like car or student loan payments as part of your DTI if you have just a few months left to pay them off.

Avoid Taking On More Debt
For example, don't make any big purchases on credit cards before you buy a home.

Wait To Apply
If your debt-to-income ratio is exceptionally high — say 50% or more — it probably makes sense to wait to make a home purchase until you've reduced the ratio.

Before you sit down with a lender, use a mortgage calculator to help figure out a reasonable mortgage payment for you.

The lower your debt-to-income ratio, the safer you are to lenders — and the better your finances will be.

And, if you have questions, lets Chat call us at 480.553.8770