To your mortgage lender, debt-to-income (DTI) ratios are as important as your credit score.
DTIs clue the lender (and you) to how well you are financially able to cover your mortgage payment along with your other debts.
Like a high credit score, a sizable down payment and solid employment, the lower your ratios, the better chance you have getting a loan at the best rate.
You have two DTIs.
Front-end ratio – The front-end ratio reveals the percentage of your gross income spent on housing costs every month.
For homeowners, that’s the combined mortgage principal, interest, property taxes and insurance (PITI).
The front-end ratio can also include homeowner association dues and mortgage insurance if you pay them.
For renters, the front-end ration is simply the month’s rent.
Back-end ratio – The second ratio is the percentage of your income that goes toward paying all recurring debt payments, including housing costs and other debts, including payments for credit cards, car loans, installment loans, student loans, child support, alimony, legal judgments – the works.
The second ratio does not include other expenses including food, clothing, entertainment, savings, investments and other costs that aren’t debts. Keep that in mind.
The two DTIs together are expressed as a pair, for example 28/36 are the numbers lenders generally want to see.
It means no more than 28 percent of your income goes toward housing costs and no more than 36 percent of your income goes toward all debts, including housing.
Beyond the ratios
Remember, the ratios use gross income – pre-taxed dollars. That means your ratios are a liberal snapshot of your ability to handle a mortgage.
Your mortgage lender will take the liberal accounting of your ratios into account, particularly if you qualify by the skin of your teeth.
Also beware of your other costs, those non-debts you nevertheless have to cover – food, clothing, savings, etc.
You can improve your ratios by lowering your debt or increasing your income.
In the chart below, the text above the pie charts should be reversed, otherwise it’s handy way to calculate your ratios.
Mouse over and click to expand it.