Your debt-to-income ratio is the percentage of your gross monthly income spent on existing monthly debt. These monthly debt payments include:
- Mortgage and Rent Payments
- Car Loan Payments
- Minimum Credit Card Payments
- Student Loan Payments
- Alimony or Child Support Payments
To calculate your DTI, simply add up your total from the above payments and divide this amount by your gross monthly income. As for what ratio is acceptable, most lenders base the debt-to-income (DTI) ratio that you are allowed to have on your credit score. The higher your credit score, the higher your DTI can be.
Acceptable DTI Based on Credit Score
As a general rule of thumb, you should have a DTI of less than 36 percent of your gross (pre-tax) income before applying for a car loan. Your DTI will include all of your recurring debt payments plus the payment on the loan that you are applying for. Some lenders may extend the DTI to 40 percent if you have an excellent credit rating. On the other hand, if you have a bad credit rating, you may be asked to have a DTI that is closer to 30 percent. The better your DTI, the lower interest rate you can expect.
Before you apply for an loan, you should look at ways to lower your monthly payments. This may mean paying down a chunk of your credit card balance, thereby lowering your minimum monthly payment, or having your student loan payments deferred. Even if your loan application is denied by the large banks, you can try alternative lenders such as credit unions and services like ours. The lenders we work with are often able to overlook a higher DTI than other lenders.