Debt-To-Income Ratio (DTI): What Is It And How Is It Calculated?
Miranda Crace9-minute read
February 06, 2023
*As of July 6, 2020, Rocket Mortgage® is no longer accepting USDA loan applications.
As you consider buying a home, it’s important to get familiar with your debt-to-income ratio (DTI). If you already have a high amount of debt compared to your income, then moving forward with a home purchase could be risky. Even if you’re prepared to take the leap, you may struggle to find a lender willing to work with your high DTI.
Let’s take a look at what DTI is, how it works, and how it impacts your mortgage application so you can be prepared when you start shopping for homes.
What Is Debt-To-Income Ratio?
Your debt-to-income ratio, or DTI, is a percentage that tells lenders how much money you spend on monthly debt payments versus how much money you have coming into your household. You can calculate your DTI by adding up your monthly minimum debt payments and dividing it by your monthly pretax income.
When you apply for a mortgage, you’ll need to meet maximum DTI requirements so your lender knows you’re not taking on more debt than you can handle. Lenders prefer to work with borrowers with a lower DTI because it shows that you’re less likely to default on your loan.
Your lender may look at two different types of DTI during the mortgage process: front-end and back-end.
Front-end DTI only includes housing-related expenses. This is calculated using your current monthly mortgage or rent payment, including property taxes and homeowners insurance as well as any applicable homeowners association dues.
Lenders typically won’t worry about this number (with a few exceptions, such as FHA loans) when reviewing your mortgage application. However, it can give you an idea of where your finances stand and how much home you can realistically afford.
Back-end DTI includes all your minimum required monthly debts. In addition to housing-related expenses, back-end DTIs include any required minimum monthly payments your lender finds on your credit report. This includes debts like credit cards, student loans, auto loans and personal loans.
Your back-end DTI is the number that most lenders focus on because it gives them a more complete picture of your monthly spending.
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Why Your DTI Is Important
When considering mortgage applications, lenders want to make sure borrowers are qualified for the loan before issuing it. This means they want to make sure you’ll to be able to comfortably make your mortgage payments on time each month for the rest of the loan’s term.
By looking at your DTI, your lender can get a better understanding of your financial situation. The ratio shows them how much debt you have relative to your monthly income so they can make sure that you’d be able to cover the cost of a mortgage on top of any existing debt you need to repay.
What Counts As A Good DTI Ratio?
Most lenders want to see applicants with DTI ratios of 43% or less. However, it’s helpful to understand how different ranges can impact your chances of approval when applying for a mortgage.
- Over 50%: A debt-to-income ratio of 50% or higher tends to indicate that you have high levels of debt and are likely not financially ready to take on a mortgage loan. Lenders will often deny applicants loans when their ratios are this high.
- 43% – 50%: Ratios falling in this range often show lenders that you have a lot of debt and may not be ready to take on a mortgage loan.
- 36% – 41%: Ratios in this range show lenders that you have reasonable amounts of debt and still have enough income to cover the cost of a mortgage should you get one. Lenders are more likely to approve loans for people with these DTIs.
- Below 36%: DTI ratios below 36% show lenders that you have truly reasonable levels of debt. You shouldn’t have trouble qualifying for new loans or lines of credit.
By figuring out where your DTI stands, you’ll be better able to decide if now is the time to buy a home. If your DTI ratio is high, waiting may be a better option. However, if your ratio is low, you can take advantage of the fact and apply for a home loan.
How To Calculate Debt-To-Income Ratio
Calculating your debt-to-income ratio is essential if you want to get an idea of where you’ll stand with lenders before submitting an application. Here’s how to calculate your ratio in a few short steps.
1. Add Up Your Minimum Monthly Payments
The only monthly payments you should include in your DTI calculation are those that are regular, required and recurring. Remember to use your minimum payments – not the account balance or the amount you typically pay. For example, if you have a $10,000 student loan with a minimum monthly payment of $200, you should only include the $200 minimum payment when you calculate your DTI. Here are some examples of what’s typically considered debt when applying for a mortgage:
- Your rent or monthly mortgage payment
- Any homeowners association (HOA) fees that are paid monthly
- Property tax payments
- Homeowners insurance payments
- Auto loan payments
- Student loan payments
- Child support or alimony payments
- Credit card payments
- Personal loan payments
Certain expenses should be left out of your minimum monthly payment calculation including the following:
- Utility costs
- Health insurance premiums
- Transportation costs
- Savings account contributions
- 401(k) or IRA contributions
- Entertainment, food and clothing costs
Example Of Total Monthly Payments
Here’s an example showing how to calculate your total monthly payments for your DTI calculation. Imagine you have the following monthly expenses:
- Rent: $500
- Student loan minimum payment: $125
- Credit card minimum payment: $100
- Auto loan minimum payment: $175
To find your total monthly expenses, you’d add $500, $125, $100 and $175 for a total of $900 in minimum monthly payments.
2. Divide Your Monthly Payments By Your Gross Monthly Income
Your gross monthly income is the total amount of pre-tax income you earn each month. Whether you should include anyone else’s income in this calculation depends on who’s going to be on the loan. If someone else is applying with you, then you should factor their income, as well as their debts, into the calculation. Once you’ve determined the total gross monthly income for everyone on the loan, simply divide the total of your minimum monthly payments by your gross monthly income.
3. Convert The Result To A Percentage
The resulting number will be a decimal. To see your DTI percentage, multiply that by 100. In this example, let’s say that your monthly gross monthly income is $3,000. Divide $900 by $3,000 to get .30, then multiply that by 100 to get 30. This means your DTI is 30%.
Once you calculate your DTI ratio, take a look at the number. If it’s below 43%, you’ll likely meet the DTI requirement to qualify for a mortgage.
DTI Requirements By Mortgage Type
The lower your DTI, the better. In most cases, you’ll need a DTI of 50% or less, but the specific requirement depends on the type of mortgage you’re applying for.
FHA loans are mortgages backed by the U.S. Federal Housing Administration. FHA loans have more lenient qualification requirements than other loans. Borrowers must have a minimum credit score of 500 to qualify for the loan (although this number requires a 10% down payment and not all lenders offer FHA loans with a 10% down payment). The maximum DTI for FHA loans is 57%. However, each lender is free to set its own requirements. This means some lenders may stick to the maximum DTI of 57% while others may set the limit closer to 40%. Do your research and speak with each lender you’re considering working with. They’ll be able to tell you what ranges they accept.
USDA loans can only be used to buy and refinance homes in eligible rural areas. To get a USDA loan, you must have a DTI of less than 41%.
USDA loans have a couple of unique requirements. First, you can’t get a USDA loan if your household income exceeds 115% of the median income for your area.
Second, your lender must consider the income of everyone in the household when evaluating your eligibility for a USDA loan. This means they’ll need to verify income for all occupants of the home – even if they aren’t on the loan.
When determining whether your DTI qualifies you for a USDA loan, your lender will only factor in the income and debts of the people on the loan. If there are other occupants in the home, their income will only be considered in determining whether your household meets the income limits. It won’t be factored into your DTI.
Rocket Mortgage® doesn’t offer USDA loans at this time.
VA loans, which are insured by the Department of Veterans Affairs, offer a low-cost way for current and former members of the Armed Forces and their surviving spouses to buy a home. VA loans don’t require a down payment, and they often have more lenient DTI requirements. You may be able to get a VA loan with a DTI of up to 60% in some cases.
Each lender will set their own requirements, though. Speak with your lender to find out what their requirements are. If you meet their qualifications, you may end up saving money by choosing a VA loan and most importantly, buy a home with no required down payment.
There’s not a single set of requirements for conventional loans, so the DTI requirement will depend on your personal situation and the exact loan you’re applying for. However, you’ll generally need a DTI of 50% or less to qualify for a conventional loan. If your DTI is high, you’ll need to be ready to offset your high levels of debt with high cash reserves that you can use to effectively secure the loan.
How Can I Lower My Debt-To-Income Ratio?
If your DTI is high, there are some strategies you can use to lower it before you apply for a mortgage.
Pay Off Your Smallest Debts
The fastest way to lower your debt-to-income ratio is to pay off some of your debt. If you can afford it, pay off your smallest outstanding debt in full. You’ll instantly see your DTI fall. If you can’t afford to pay off your debt entirely, make more than the minimum payment on those debts each month. This will help you pay down your debt faster, thereby lowering your DTI over time.
Raise Your Income
Adding a side hustle, picking up a few more hours at your current job or freelancing can offer you a cash injection to lower your DTI. Just keep in mind that you’ll need to be able to prove that the income you’re receiving is regular and will continue. Lenders generally like to see a 2-year history for each income source.
Put Another Person On The Loan
If you’re buying a home with your spouse or partner, your mortgage lender will calculate your DTI using both of your incomes and debts. If your partner has a low DTI, you can lower your total household DTI by adding them to the loan.
However, if your partner’s DTI is comparable to or higher than yours, then adding them to the loan may not help your situation.
Use A Co-Signer
If you’re buying a house with a high DTI, you can always ask a family member or close friend to co-sign the mortgage loan with you. When you use a co-signer, lenders will factor in their DTI when reviewing your application, potentially helping you qualify for a larger mortgage or a lower interest rate. Co-signers don’t have to live in the home with you. They just need to agree to make mortgage payments if you fail to do so yourself.
FAQs About Debt-To-Income Ratios
Here are a few of the most frequently asked questions about DTI so you can better prepare for the application process.
Is all debt treated the same in my debt-to-income ratio?
Ultimately, your total recurring debt influences your debt-to-income ratio and can improve or lower your chances of getting qualified for a mortgage. The ratio doesn’t weigh the type of debt differently. The more debt you have, the higher your DTI and the harder it may be to qualify for a great loan.
How quickly can I improve my DTI?
Since your DTI is based on the total amount of debt you carry at any given time, you can improve your ratio immediately by repaying your debt. The more aggressively you pay it down, the more you’ll improve your ratio, and the better your mortgage application will look to lenders. Alternatively, you can also pick up a second job or negotiate a raise with your current employer to earn more income.
Should I apply for a home loan with a high DTI?
High debt-to-income ratios mean lenders may be less willing to give you a mortgage loan or may ask you to pay a higher interest rate for the loan, costing you more money. While you can still apply for and receive a mortgage loan with a high DTI, it’s best to look for ways to lower the ratio if possible. This will help you get a better interest rate.
Does my DTI influence my credit score?
Your debt-to-income ratio does not influence your credit score. It simply gives you a way to see how much of your income each month has to go toward repaying your recurring debt. Having a high DTI doesn’t necessarily mean that your credit score will be low, provided you’re making the minimum payments on time each month.
The Bottom Line
Your debt-to-income ratio – how much you pay in debts each month compared to your gross monthly income – is a key factor when it comes to qualifying for a mortgage. Your DTI helps lenders gauge how much mortgage you can reasonably afford.
A DTI of 43% or less will give you the most options when you’re trying to qualify for a mortgage. Apply with Rocket Mortgage and see what mortgage options you’re eligible for based on your DTI, credit and your unique financial situation. You can also give us a call at (833) 326-6018.
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