One of the most common questions new homebuyers have when looking to finance the purchase of their dream home is, what is my Debt-to-Income Ratio (DTI) and what role does it play in my home loan? Let’s answer this question here.
Lenders assess your finances when you apply for a mortgage. They commonly review your monthly income, credit history, down payment and DTI. The latter is a method, or calculation, that the lender uses to assess if a borrower will be able to afford and pay their monthly mortgage. Figuring out your DTI is actually quite easy. First, determine what your total monthly debt is. Make sure to factor in your mortgage, car payments, credit card payments, and all other debts you are responsible for paying each month.
For example, if your mortgage is $3,000, your car payment is $350 and your credit card payment is $150, then your total monthly debt is $3,500. Next, divide your monthly debt obligation, or $3,500, with your total gross monthly income (i.e. your income earned before taxes and other deductions are removed). If your total monthly gross income is $12,000, then your Debt-to-Income Ratio is 29%.
Most lenders will be favorable to issuing a mortgage to a borrower with a DTI of 36% or less and a DTI of 43% is likely the highest percentage a lender may approve, as research suggests borrowers with a higher than 43% DTI are less likely to be able to meet their monthly mortgage obligation. Additionally, lenders typically want no more than 28% going toward the mortgage.
If you are looking to lower your DTI, the two most common ways to do so are to increase your gross monthly income and to lower your monthly recurring debt.