A:

A debt-to-income ratio is a personal finance measure that compares the amount of debt you have to your overall income. Lenders use the debt-to-income ratio as a way to measure your ability to manage the payments you make each month and repay the money you have borrowed. The ratio is calculated by dividing your total recurring monthly debt by your gross monthly income. For example, if your total recurring monthly debt is $2,000 and your gross monthly income is $6,000, your debt-to-income ratio would be 33% ($2,000 / $6,000 = 0.33, or 33%).

There are two ways to lower your debt-to-income ratio:

  • Reduce your monthly recurring debt
  • Increase your gross monthly income (or a combination of the two)

In the above example, the debt-to-income ratio was 33%, based on total recurring monthly debt of $2,000 and a gross monthly income of $6,000. If the total recurring monthly debt were reduced to $1,500, the debt-to-income ratio would correspondingly decrease to 25% ($1,500 / $6,000 = 0.25, or 25%). Similarly, if debt stays the same as in the first example but we increase the income to $8,000, again the debt-to-income ratio drops ($2,000 / $8,000 = 0.25, or 25%).

Of course, reducing debt is easier said than done. It can be helpful to make a conscious effort to avoid going further into debt by considering needs versus wants when spending. Needs are things you have to have in order to survive: food, shelter, clothing, health care and transportation. Wants, on the other hand, are things you would like to have, but that you don’t need to survive. Once your needs have been met each month, you might have discretionary income available to spend on wants. You don’t have to spend it all, and it makes financial sense to stop spending so much money on things you don’t need. It is also helpful to create a budget that includes paying down the debt you already have.

To increase your income, you might be able to:

  • Find a second job or work as a freelancer in your spare time
  • Work more hours or overtime at your primary job
  • Ask for a pay increase
  • Take on more responsibility at work
  • Complete coursework and/or licensing that will increase your skills, marketability and salary
RELATED FAQS
  1. How does my debt-to-income (DTI) ratio affect my ability to get a mortgage?

    Find out how much your debt-to-income ratio affects your ability to get a good mortgage rate when buying a home. Read Answer >>
  2. What's considered to be a good debt-to-income (DTI) ratio?

    Your debt-to-income ratio helps lenders determine your credit worthiness. Find out how to calculate your score and whether ... Read Answer >>
  3. What counts as "debts" and "income" when calculating my debt-to-income (DTI) ratio?

    It's important to know your debt-to-income ratio because it's the figure lenders use to measure your ability to repay the ... Read Answer >>
  4. What are the differences between balance-to-limit ratio and debt-to-income ratio?

    Learn how to differentiate between your balance-to-limit ratio and your debt-to-income ratio, how they are calculated, and ... Read Answer >>
  5. Does my debt-to-income (DTI) ratio affect my credit score?

    Though closely related, your debt-to-income ratio doesn't affect your credit score as directly as you might think. Read Answer >>
Related Articles
  1. Personal Finance

    Too Much Debt For a Mortgage?

    Just because a lender is willing to offer you a loan doesn't mean you should take it.
  2. Personal Finance

    What’s Considered To Be A Good Debt-To-Income (DTI) Ratio?

    The debt-to-income ratio measures the amount of debt a person has compared to overall income.
  3. Personal Finance

    5 Ways to Up Your Chance of Getting a Mortgage

    Tips and ways to improve your chances of getting a mortgage.
  4. Personal Finance

    Calculating Debt-To-Income Ratio (DTI)

    The debt-to-income ratio measures the percentage of a person’s debt when compared to his overall income.
  5. Investing

    To Invest Or To Reduce Debt, That's The Question

    Find out how you can make use of that excess cash and improve your financial situation.
  6. Personal Finance

    Digging Out Of Personal Debt

    Good intentions can put consumers in even more personal debt.
  7. Investing

    Are You Ready To Buy A House?

    There are a number of factors, aside from cost, that you should think about before buying a new house.
  8. Personal Finance

    Sizing Up Debt

    Ever wonder if the different types of debt are good or bad? Read on and we'll tell you.
  9. Personal Finance

    How to Calculate How Much House You Can Afford

    Here is part one of a step-by-step process you can use to calculate just how much home you can afford.
RELATED TERMS
  1. Debt-To-Income Ratio - DTI

    A personal finance measure that compares an individual's debt ...
  2. Qualification Ratio

    Ratio of debt to income and housing expense to income that is ...
  3. No-Ratio Mortgage

    A mortgage program in which a borrower's income isn't used or ...
  4. Recurring Debt

    Any payment used to service a debt obligation that occurs on ...
  5. Debt Ratio

    A financial ratio that measures the extent of a company’s or ...
  6. Front-End Debt-to-Income Ratio - DTI

    A variation of the debt-to-income ratio (DTI) that calculates ...
Hot Definitions
  1. Nonfarm Payroll

    A statistic researched, recorded and reported by the U.S. Bureau of Labor Statistics intended to represent the total number ...
  2. Conflict Theory

    A theory propounded by Karl Marx that claims society is in a state of perpetual conflict due to competition for limited resources. ...
  3. Inflation-Linked Savings Bonds (I Bonds)

    U.S. government-issued debt securities similar to regular savings bonds, except they offer an investor inflationary protection, ...
  4. Peak Globalization

    Peak globalization is a theoretical point at which the trend towards more integrated world economies reverses or halts.
  5. Phishing

    A method of identity theft carried out through the creation of a website that seems to represent a legitimate company. The ...
  6. Insurance

    A contract (policy) in which an individual or entity receives financial protection or reimbursement against losses from an ...
Trading Center