A debt-to-income ratio is a personal finance measure that compares the amount of debt you have to your gross 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. It is calculated by dividing your total recurring monthly debt by your gross monthly income.
A credit score, on the other hand, is a numeric expression that helps lenders estimate the risk of extending credit or loaning money to people. The most common credit score is the FICO score, a measurement based on five factors that affect the credit score:
- Payment history - 35%
- How much you owe and how much credit you use - 30%
- Length of your credit history - 15%
- New lines of credit - 10%
- Other factors - 10%
Your debt-to-income ratio does not directly affect your credit score. This is because the credit agencies do not know how much money you earn, so they are not able to make the calculation. The credit agencies do, however, look at your debt-to-credit ratio. This compares your credit card balances to the total amount of credit you have available. It is calculated by dividing your credit card balance(s) by your credit limit(s). For example, if you have credit card balances totaling $4,000 with a credit limit of $10,000, your debt-to-credit ratio would be 40% ($4,000 / $10,000 = 0.40, or 40%). In general, the more a person owes relative to their credit limit, the lower their credit score will be. This is because you are seen as more of a risk if you're already maxing out your lines of credit.
Both your debt-to-income and debt-to-credit ratios are used to determine if you qualify for a mortgage, but only the debt-to-credit ratio has any effect on your credit score.
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