Debt-to-Income Ratio

The debt-to-income ratio (DTI) represents the percent of your income that goes toward paying debts, and the lower the number the better. DTI can be calculated in two different ways:

1. The front-end DTI ratio indicates the percent of your income that goes toward housing costs. For renters this is the rent amount and for homeowners this includes all payments associated with the house—mortgage payments, insurance premiums, property taxes, and homeowners’ association dues divided by your gross income. In general, lenders recommend a front-end ratio of 28 percent or less (see the sample below.)
2. The back-end DTI ratio indicates the percent of income that goes toward paying all recurring debt payments, including those covered by the front-end DTI as well as other debts, such as credit cards, car payments, student loan payments, child support, alimony, etc. In general, lenders recommend a back-end ratio of 36 percent or less.

If your ratios are a lot higher than the recommended amounts look for ways to lower them. For example, if your front-end DTI is above 30 percent, it’s a signal that your housing costs are too high for your current income level and you should try to increase your income or lower your housing expenses.  Or, if your front-end DTI is okay but your back-end DTI is high (above 40 percent), it’s a signal that your loans and/or credit cards are taking up too much of your income, and you could possibly benefit from a debt-reduction plan.

      Here’s an example of how to calculate the debt-to-income ratio: 

Charles has a monthly gross income (the amount he earns before paying taxes or anything else) of $4,000. His total housing costs are $1,200 and his total monthly debt, including his housing costs are $1,700