Debt-To-Income Ratio (DTI): What Is It And How Is It Calculated?

How To Calculate Debt-To-Income Ratio

Calculating your debt-to-income ratio is essential if you want to get an idea of where you’ll stand with lenders before submitting an application. Here’s how to calculate your ratio in a few short steps.

1. Add Up Your Minimum Monthly Payments

The only monthly payments you should include in your DTI calculation are those that are regular, required and recurring. Remember to use your minimum payments – not the account balance or the amount you typically pay. For example, if you have a $10,000 student loan with a minimum monthly payment of $200, you should only include the $200 minimum payment when you calculate your DTI. Here are some examples of what’s typically considered debt when applying for a mortgage:

Your rent or monthly mortgage payment
Any homeowners association (HOA) fees that are paid monthly
Property tax payments
Homeowners insurance payments
Auto loan payments
Student loan payments
Child support or alimony payments
Credit card payments
Personal loan payments

Certain expenses should be left out of your minimum monthly payment calculation including the following:

Utility costs
Health insurance premiums
Transportation costs
Savings account contributions
401(k) or IRA contributions
Entertainment, food and clothing costs

Example Of Total Monthly Payments

Here’s an example showing how to calculate your total monthly payments for your DTI calculation. Imagine you have the following monthly expenses:

Rent: $500
Student loan minimum payment: $125
Credit card minimum payment: $100
Auto loan minimum payment: $175

To find your total monthly expenses, you’d add $500, $125, $100 and $175 for a total of $900 in minimum monthly payments.

2. Divide Your Monthly Payments By Your Gross Monthly Income

Your gross monthly income is the total amount of pre-tax income you earn each month. Whether you should include anyone else’s income in this calculation depends on who’s going to be on the loan. If someone else is applying with you, then you should factor their income, as well as their debts, into the calculation. Once you’ve determined the total gross monthly income for everyone on the loan, simply divide the total of your minimum monthly payments by your gross monthly income.

3. Convert The Result To A Percentage

The resulting number will be a decimal. To see your DTI percentage, multiply that by 100. In this example, let’s say that your monthly gross monthly income is $3,000. Divide $900 by $3,000 to get .30, then multiply that by 100 to get 30. This means your DTI is 30%.

Once you calculate your DTI ratio, take a look at the number. If it’s below 43%, you’ll likely find it easy to qualify for a mortgage.

How Can I Lower My Debt-To-Income Ratio?

If your DTI is high, there are some strategies you can use to lower it before you apply for a mortgage.

Pay Off Your Smallest Debts

The fastest way to lower your debt-to-income ratio is to pay off some of your debt. If you can afford it, pay off your smallest outstanding debt in full. You’ll instantly see your DTI fall. If you can’t afford to pay off your debt entirely, make more than the minimum payment on those debts each month. This will help you pay down your debt faster, thereby lowering your DTI over time.

Raise Your Income

Adding a side hustle, picking up a few more hours at your current job or freelancing can offer you a cash injection to lower your DTI. Just keep in mind that you’ll need to be able to prove that the income you’re receiving is regular and will continue. Lenders generally like to see a 2-year history for each income source.

Put Another Person On The Loan

If you’re buying a home with your spouse or partner, your mortgage lender will calculate your DTI using both of your incomes and debts. If your partner has a low DTI, you can lower your total household DTI by adding them to the loan.

However, if your partner’s DTI is comparable to or higher than yours, then adding them to the loan may not help your situation.

Use A Co-Signer

If you’re buying a house with a high DTI, you can always ask a family member or close friend to co-sign the mortgage loan with you. When you use a co-signer, lenders will factor in their DTI when reviewing your application, potentially helping you qualify for a larger mortgage or a lower interest rate. Co-signers don’t have to live in the home with you. They just need to agree to make payments to the bank if you fail to do so yourself.