What is a Debt to Income Ratio?

A debt to income ratio is the amount you pay per month towards debt obligations divided by your gross monthly income. This is factored as a percentage and is one of the main qualifying factors used for mortgage qualifications. When you apply for a mortgage the two most important factors are your credit score and your debt to income ratio. In some scenarios, your debt to income ratio is more important than your credit score, since it shows how much you can reasonably afford to pay back within a set time frame.

What’s an Ideal DTI?

Ideally your debt to income ratio should be below 30% in order to be on the safe side of qualifying for a prime rate mortgage. However, this varies greatly and parameters could actually change based on the state you live in. In New York, for example the Debt to income requirement has risen to 40% since real estate is so expensive and most consumers would otherwise be priced out of the market. So, ideally the lower the better but if you can keep your debt to income ratio below 30%, you’ll be in good shape with lenders.

How Can You Improve Your Debt to Income Ratio?

There’s usually only two ways to improve your DTI ratio. You can either generate more income and increase the bottom line or you cut down on credit report listed debt obligations and reduce the top line.

Reducing Monthly Expenses

To effectively lower your debt to income ratio, you’ll need to eliminate debt obligations that are reported on your credit report. Anything that is a monthly obligation is going to weigh against you, so in this scenario you want to eliminate whatever you can that is hurting your chances of improving your DTI. The best and most cost-effective way to lower your DTI is to go after low-hanging fruit and eliminating debt accounts that are close to being paid off. If you have accounts that are only a few payments away from going to $0 it might be prudent to eliminate them early before any mortgage qualifications or just to be pre-emptive if you are looking to purchase a home soon.

Increasing Income

The other option is that you increase your gross monthly income since going this route will also effectively lower your debt to income ratio. Most individuals increase their income by picking up a second job, picking up a side hustle or even performing freelance work in their free time. There’re many ways to make additional money nowadays so don’t be afraid to follow your interest and go with something that you’ll also enjoy doing.

Everyone tends to harp on the credit score and yes, it is definitely important. However, without your debt to income ratio, lenders wouldn’t be able to know whether you can realistically afford to pay back a particular mortgage. If you can’t afford to pay back what your borrowed due to underlying debt obligations or a lack of income, your credit worthiness really isn’t going to be much help to you. You could have an amazing credit score but if your DTI is lacking it might not matter.