Debt-to-income ratio is a calculation lenders use along with credit history to evaluate whether a borrower can repay a loan. DTI divides the total of all monthly debt payments by gross monthly income.
A borrower with rent of $1,000, a car payment of $300, a minimum credit card payment of $200 and a gross monthly income of $6,000 has a debt-to-income ratio of 25%. A debt-to-income ratio of 20% or less is considered low. The Federal Reserve considers a DTI of 40% or more a sign of financial stress.
Lenders look at DTI because research shows borrowers with high debt-to-income ratios have more trouble making their payments.
Each lender sets its own DTI requirement. Not all personal loan providers publish a minimum debt-to-income ratio, but generally it will be more lenient than for, say, a mortgage.
You may find personal loan companies willing to lend money to consumers with DTI ratios of 50% or more, and some exclude mortgage debt from the calculation. That’s because one of the most common uses of personal loans is to consolidate credit card debt.
Debt-to-income ratios do not affect your credit scores; credit-reporting agencies may know your income but do not include it in their calculations.
But credit-utilization ratios, or the amount of credit you’re using compared to your limit, do affect your credit scores. Credit reporting agencies know your available credit limits, both on individual credit cards and in total, and most experts advise keeping the balances on your cards no higher than 30% of your credit limit. Lower is better.
To reduce your debt-to-income ratio, you need to either make more money or reduce the monthly payments you owe.
If your DTI is above 50% — especially if the majority of your debt is from credit cards — we strongly recommend you explore debt relief options such as credit card debt consolidation, debt management plans or bankruptcy.