Question 1

Why is debt-to-income ratio important?

Accepted Answer

Your DTI ratio is important because it's one way lenders may measure your ability to repay the money you borrow, according to the Consumer Financial Protection Bureau (CFPB). Lenders and loan products, such as credit cards, a mortgage loan, or auto loan, may have different DTI ratio requirements to determine if you're eligible for that type of credit.

Question 2

What is a good debt-to-income ratio?

Accepted Answer

There's no specific number that's a "good" debt-to-income ratio to have. DTI ratio requirements vary from lender to lender and the type of loan or credit you're looking for. That said, credit reporting agency TransUnion reports that "lenders generally like to see your DTI around 35% or lower." Having too high of a debt-to-income ratio may mean you might be denied a new line of credit.

Question 3

How to lower your debt-to-income ratio?

Accepted Answer

There are a number of strategies that may help reduce your DTI ratio. One way would be to increase your income, which may happen on its own if you're due for an annual pay increase. You may also change to a higher-paying job, or take on part-time work. Other strategies involve reducing debt, which you may do by steadily paying down your existing debt or through a balance transfer if you're approved. If you're looking to pay down debt more quickly than simply making your monthly debt payments, there are a couple of strategies you may employ. One is called the debt avalanche method, which may help you save money by paying off the debt with the highest interest rate first. Or try the debt snowball method, where you make the minimum payment on each of your debts, but you put any extra money you have toward paying off your smallest debt first. When it's paid off, use the freed-up money to add to the payment for the next lowest debt. As you pay off each, the amount you can use to pay the next debt "snowballs" and may help you pay off all of your debts faster. For example: Say you have 2 credit cards with a $1,000 and $3,000 balance, a car loan with a $7,000 balance, and a mortgage payment. The debt snowball method says to pay off the $1,000 credit card debt first by making the required minimum monthly payment each month plus any extra you may afford. When it's paid off, take that money and add it to the minimum payment for the other credit card. Continue the process to then pay off the auto loan and finally help in paying off your home loan.

Question 4

Does debt-to-income ratio affect your credit score?

Accepted Answer

The short answer is no, as credit bureaus don't take your income into account when calculating your credit score. However, if you have a high DTI ratio, it may indicate you also have a high credit utilization ratio, which typically accounts for 30% of your credit score.

What is Debt-to-Income Ratio, and How Do You Calculate It?

Key Takeaways

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How do I calculate my debt-to-income ratio?

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