What Is Debt-To-Income Ratio?

Debt-to-income ratio (DTI) is a metric lenders use to assess whether you can afford to repay money you hope to borrow. DTI is calculated by adding up your monthly bills and dividing by your monthly income before taxes. The higher your DTI, the more of your income is going towards debt, so you may appear to be less likely to pay back a loan. Mortgage lenders tend to use the DTI in their underwriting process to assess an applicant’s financial profile.

Front-End Vs. Back-End Ratio

Lenders use two different types of debt-to-income ratios when considering your risk profile as a borrower. The front-end ratio looks at your income towards your housing costs, whereas the back-end ratio looks at your debt obligations.

Front-End Ratio

A front-end DTI ratio takes into account how much of your gross income goes towards mortgage payments. This includes the principal, interest, taxes and insurance (PITI) and other related housing costs like HOA fees. To calculate the front-end ratio, take all your estimated mortgage payments and divide it by your gross income.

Back-End Ratio

The back-end DTI ratio measures the risk that lenders may face when deciding to lend money to a borrower. It looks at how much of your income goes toward your debts like your mortgage, student loans, credit cards and auto loans. Calculating the back-end ratio involves adding all your debt obligations and dividing it by your gross income.

How Is Debt-To-Income Ratio Calculated?

The back-end debt-to-income ratio is calculated by dividing your gross income by the total of all your debt obligations. Your front-end ratio only considers your housing payments.

1.   Add Up Your Monthly Debts

Take all your monthly debts and add them up. Debts for the back-end ratio can include:

• Mortgage
• Alimony
• Auto loan
• Student loan(s)
• Personal loan(s)
• Credit card payments
• Child support

If you’re calculating your front-end ratio, you’ll instead add up your estimated monthly mortgage payment (PITI) and homeowners association (HOA) fees if applicable.

2.   Divide By Your Monthly Income Before Taxes

Add all your gross income sources of everyone who will be on the mortgage loan documents. For example, if you and your spouse will be co-borrowers, add up both of your incomes. Aside from your salary, consider other sources of income like ones from your side hustles or businesses. Remember, your gross income is the amount you earn before taxes and deductions.

Once you’ve added all your regular income sources, take this amount and use it to divide it by your debts for your front-end or back-end ratio.

3.   Multiply By 100 To Get A Percentage

Once you’ve completed the calculations from the previous step, you’ll end up with a decimal number, like 0.25. Multiply this by 100 to get the percentage of your front- or back-end ratio. In this instance. 0.25 is 25%.

DTI Calculation Example

Say you want to see your front-end ratio. You don’t have HOA payments and your estimated PITI is $2,300 per month. Your gross income is $6,200 per month. Using these numbers, here’s the calculation for your front-end ratio:

($2,300 ÷ $6,200) x 100 = 0.37 x 100 = 37%

We can calculate your back-end DTI using the same formula. Say you currently have mortgage payments, personal loans and an auto loan totaling $1,500 per month on your $6,200 gross salary. Here’s how you would use these numbers to calculate the back-end ratio:

($1,500 ÷ $6,200) x 100 = 0.24 x 100 = 24%

What Is A Good Debt-To-Income Ratio?

Mortgage lenders typically want your front-end ratio to be as low as possible, and some lenders tend to consider a ratio of 28% or more too high for conventional loans. For other products, like government-backed FHA loans, the maximum front-end ratio is 31%. That’s not to say if yours is higher you won’t be approved for a loan. It just means your chances may be slimmer, or lenders may not offer you the most competitive rates.

A back-end DTI of 36% or less is considered good since this means less than half of what you earn goes toward debt. With more money available outside of debt payments, lenders may see you as less of a default risk and may be more likely to extend competitive rates.

Those who have back-end DTIs at 45% or less may still qualify for favorable loan terms, as long as other aspects of their financial profile are strong. As in, you have a very good credit history and a good amount of assets. While some lenders may accept borrowers with up to 50% DTI, you pose more of a risk — you could see higher interest rates as a result or fewer lenders willing to work with you.

FAQs About Debt-To-Income Ratio

Is 20% a good debt-to-income ratio?

Most mortgage lenders want applicants to have a DTI of less than 36% when applying for a mortgage. If you have a DTI of 20%, that is most likely considered excellent, depending on the loan product.

What is a good DTI ratio to buy a house?

Lenders typically prefer borrowers to have a front-end DTI of 28% or lower, and a back-end DTI of 36% or lower. However, some lenders may consider a back-end DTI of 45% to 50%, though you may have to pay higher interest rates.

Can I buy a house with 50% DTI?

The likelihood of being approved for a mortgage with a 50% DTI may be lower compared to someone with a lower ratio. You may be approved if you can prove you have the financial means to pay back a loan, like with a good credit score and a large amount of assets. You may find that fewer lenders are willing to work with you, or that they are less likely to offer competitive rates.

Do credit cards impact DTI?

Credit cards may impact your DTI as they count as debts if you carry a balance month to month. The more credit card debt you have, the higher your DTI could be.

The Bottom Line

Your debt-to-income ratio is an important indicator for lenders of your financial health. The lower your DTI, the more it appears you have the financial ability to pay a loan back, and the more likely a lender may approve you for a loan. Want to ensure your DTI is as low as possible? Keep track of your debt payments and spending by downloading the Rocket Money℠ app today.