Are you thinking about buying a home? Or how about refinancing your mortgage? If either applies to you, then there is a number you should know (and it’s not your credit score — though that’s important, too). Debt-to-income ratio (DTI) is one of several key factors that lenders look at during the mortgage application process.
What is debt to income ratio?
DTI is a percentage that’s calculated by adding up your monthly minimum debt payments and dividing the total by your monthly gross income.
What is a good debt to income ratio?
Each lender might be slightly different, but a good percentage to aim for is 50% or less. Remember that DTI is only one influential component of the mortgage application process, and there are several other deciding factors behind a mortgage approval.
How can a potential borrower improve DTI?
The concept of improving DTI is fairly straightforward: Pay down your debt, increase your income, or do both. Here are a few things to consider in the interest of improving DTI:
1. Cut Your Spending
Decrease your spending and put more money toward paying off your debt. Adhering to a budget is a good way to start being conscious of your spending and find easy places to spend less money, including eating out, upgrading gadgets, and shopping. Look into canceling subscriptions —think streaming services, cable, and online games — that you aren’t using or don’t really need.
If you have credit card debt to pay off, stop using credit for shopping and try to only make cash purchases. Using cash will keep you from increasing your credit card balance (which would increase your total debt) and negatively impact your DTI. Try not to fall into a habit of paying down your credit card balance and then racking it back up again.
2. Increase Your Income
Any extra money can be beneficial two ways: to pay down your existing debt, and to increase your monthly income.
3. Consolidate & Pay Off Your Debt
If you are trying to improve your DTI ratio, consider whether consolidating credit card debt could be an option. If so, try to pay down the cards with the highest interest rates first. Since a big part of the DTI ratio is the total amount of your monthly debt payments, lowering credit account balances can have a positive impact on your DTI. If you have substantial home equity, you might consider a cash-out refinance. You could be able to tap into your home’s equity to get cash and consolidate high-interest non-mortgage debt.*
Do you have additional questions about DTI, mortgages, home loans, or refinancing? Get in touch with Mr. Cooper’s mortgage professionals.
*A debt consolidation refinance increases your mortgage debt, reduces equity, and extends the term on shorter‐term debt and secures such debts with your home. The relative benefits you receive from debt consolidation will vary depending on your individual circumstances. You should consider that a debt consolidation loan may increase the total number of monthly payments and the total amount paid over the term of the loan. To enjoy the benefits of a debt consolidation loan, you should not carry new credit card or high interest rate debt.