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Debt to Income Ratios Explained

July 27, 2016 By: Great Midwest Bank

understanding your debt to income ratioYour credit score is not the only factor lenders consider when you’re applying for a mortgage. Your debt to income ratio (DTI) also plays a major role in the credit decision. Though your DTI does not directly impact your credit score, it is a strong indicator of your financial health and credit worthiness.

What is a Debt to Income Ratio?
Your DTI is exactly what it sounds like – it’s your total monthly debt divided by your total monthly income (gross income before taxes and other withholding).

The debt side of the ratio factors in:
– Your proposed monthly housing payment (including 1/12th of annual insurance and real estate taxes)
– Credit cards (minimum monthly)
– Car loans
– Student loans (1% of the balance if they are not yet in repayment)
– Child support and spousal maintenance
– Any other monthly obligations, not including bills for phone, cable or utilities

A side note here – if you own a home today and want to make a “non-contingent” offer on a new place, or even build a new home, you may have to qualify with both current and proposed housing payments included in your DTI ratio.

What is a Good Debt to Income Ratio?
Generally, lenders allow for total debts of up to 45% of your gross income. Occasionally, especially with our Portfolio Loan, local lenders like Great Midwest Bank will make minor exceptions when “compensating factors” exist. One of our experienced Loan Officers can offer more insight on your particular circumstances.

How Can I Reduce My Debt to Income Ratio?
To reach a more favorable DTI you either have to reduce your debt or raise your income. And recognize that not all income counts. For self-employment, bonuses or commission income to be included, we’ll often require a two-year average.

Strategies like paying more than your minimum monthly payment, making weekly payments, and loan consolidation can help you get ahead of your debt and pay it down more quickly. Making smart savings choices can help free up some money in your budget to make larger monthly payments – you can learn more about frugal living tips on our Save Smart Blog.

Have more questions about debt to income ratios? Contact us to speak with one of our friendly, local bankers. We’re here to help!