When applying for a loan, such as a mortgage, one of the primary factors that lenders take into consideration is your debt-to-income ratio. This is a calculation of how much personal debt you currently have in relation to the amount you currently earn. Knowing your own debt-to-income ratio can help you be prepared when applying for a loan, because it will help lenders determine how much additional debt you can handle. The following steps will help you figure your own debt-to-income ratio.
First of all, add up all of your current fixed monthly expenses. This includes minimum credit card payments, car payments, student loans, child support and any other expense. You do not have to include utilities or grocery expenses when figuring your debt-to-income ratio.
Next, add to your monthly expenses your expected monthly house payment, if applying for a mortgage, or your current monthly house payment. Be sure to include things like homeowner's insurance and property taxes.
Now, divide this amount by your monthly gross income. Your gross income is the amount you earn before any deductions or taxes are taken out. This will give you your debt-to-income ratio.
Most lenders want your debt-to-income ratio to be less than 36 percent to qualify for a loan or get a reasonable interest rate. Also, when applying for a mortgage, lenders prefer your monthly housing expenses to be no more than 28 percent of your monthly income. There are some lenders who allow up to 40 or 41 percent; however, you should make sure that you are comfortable with and able to handle the amount of debt you would be accepting. If your debt-to-income ratio is more than 36 percent, you may find it advantageous to pay down as much debt as much as possible before applying for a loan. This will increase your chances of getting accepted for a loan and receiving a competitive interest rate.
Just because a lender qualifies you for a loan of a certain amount does not guarantee that you will be able to comfortably handle that amount. Closely examine your finances to determine for yourself how much debt you can afford.