What is Debt to Income Ratio and how is (DTI) Calculated
Debt to Income Ratio (DTI) is the ratio of your monthly debt payments vs your monthly Income before taxes (Gross Income). The Ratio is derived simply by dividing the total monthly debt payment by the monthly Gross Income. The derived number is used as a percentage and lenders use this number to figure your ability to repay loans or to further extend you credit.
The higher the Debt to Income Ratio, the lender considers the borrower a higher risk. To calculate DTI, a borrower would add up all monthly debt repayment installments such as monthly mortgage or rent payment, minimum monthly credit card payments, Auto, Personal or Student Loan monthly payment, monthly child support or Alimony payment and any other debt payment that shows up on your credit report and divide it by your monthly take home pay before taxes (Gross Pay). The number converted to a percentage is the Debt to Income Ratio (DTI).
Certain monthly payments or obligations such as utilities, groceries, insurance premiums, healthcare expenses, daycare etc. are not part of this calculation.
Lenders use two types of DTI's, namely Front End DTI and Back End DTI.
Front End DTI utilizes the ratio of borrowers Income to monthly housing expense that include monthly mortgage payment, Property Taxes, Home Owners Insurance and Homeowners Association dues.
Back End DTI includes the borrower's monthly housing expense plus other monthly debt payments including credit card bills, car loan, child support payment, student loan and other revolving debt on the credit report.
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