What debt-to-income ratio measures
Your debt-to-income ratio is the percentage of your gross monthly income that goes toward debt payments. Lenders calculate it by adding up all your monthly debt obligations and dividing by your gross monthly income before taxes. If you earn $5,000 a month and pay $1,500 toward debts, your ratio is 30 percent.
Lenders use this number to decide whether to lend you money and at what interest rate. A lower ratio signals you have room in your budget for a new payment. A higher ratio suggests you are already stretched thin. Most conventional mortgage lenders want to see a ratio below 43 percent, though some will go higher or lower depending on your credit history and down payment.
Key Takeaways
- Debt-to-income includes monthly payments on mortgages, car loans, student loans, credit cards, and personal loans, but not utilities or insurance.
- Lenders count the minimum payment on credit cards, not the full balance, even if you carry a large amount owed.
- Child support, alimony, and court-ordered payments count as debt obligations in the ratio.
- Your gross income is what you earn before taxes and deductions, not your take-home pay.
- The same debt obligation may be counted differently by different lenders depending on the type of loan you are seeking.
Debts that count toward the ratio
Monthly debt payments that lenders include are those you are legally obligated to pay. This covers your mortgage or rent (if you are renting), car loans, student loans, personal loans, and credit card minimum payments. If you have a home equity line of credit or a second mortgage, both count. Payday loans, title loans, and other short-term borrowing also appear on the calculation.
Court-ordered obligations matter too. Child support, alimony, and wage garnishments all count as monthly debt. If you are paying back a judgment from a lawsuit, that payment goes into the ratio. Some lenders also include any lease payments you have signed, such as a car lease or equipment lease for a business.
The key word is obligated. You must have a legal duty to pay. If you co-sign a loan for someone else, lenders will count that payment even if the other person makes it, because you are legally responsible if they do not.
What does not count
Expenses you pay every month but are not contractual debts do not count. Utilities, groceries, gas, insurance premiums, phone bills, and childcare costs stay off the ratio. Medical bills, even large ones, typically do not count unless you have a payment plan with a creditor reporting the debt to the credit bureaus. Property taxes and homeowners insurance are not included in the debt-to-income calculation, though they may be part of your total housing payment if you have a mortgage.
Potential future obligations do not count either. If you are about to take out a student loan or plan to buy a car next month, those payments are not in your current ratio. However, when you explore for a new loan, lenders will add that new payment into the calculation to see if you would still may have access to.
How credit card debt is counted
Credit cards are handled differently than other debts. Lenders do not count your full balance owed. Instead, they count the minimum monthly payment you are required to make. If you owe $10,000 on a credit card with a 2 percent minimum payment, lenders count $200 per month, not the $10,000 balance.
Some lenders use a standard calculation: they multiply your credit card balance by a fixed percentage (often 2 to 5 percent) to estimate your minimum payment, even if your actual minimum is lower. This protects the lender by assuming you might carry a higher balance in the future. If you have multiple cards, each one is calculated separately and then added together.
Paid-off credit cards with a zero balance do not count. Cards you have closed also do not count, though closing a card can affect your credit score in other ways.
Income that counts in the calculation
Lenders use your gross monthly income, which is what you earn before taxes, Social Security, and other deductions come out. If you are salaried, divide your annual salary by 12. If you are paid hourly, multiply your hourly rate by the number of hours you typically work per week, then multiply by 52 weeks and divide by 12.
Self-employed income is trickier. Most lenders average your income over the past two years using your tax returns. If your income has been rising, they may use the most recent year. If it has been falling, they often use the average. Some lenders require two years of tax returns before they will count self-employment income at all.
Other income sources that count include bonuses, commissions, rental income, Social Security, disability payments, alimony received, and investment income. However, lenders usually require documentation: recent pay stubs for bonuses and commissions, tax returns for rental or investment income, and award letters for Social Security or disability. Income that is temporary or likely to end soon may not count, or may be counted at a reduced amount.
Why lenders calculate it differently
The same debt and income may produce different ratios depending on the lender and the type of loan. A mortgage lender might count your housing payment one way, while an auto lender counts it another. Some lenders include utilities in the housing ratio; others do not. A few lenders add back certain deductions (like taxes) to income, while most use gross income as-is.
Federal loan programs have their own rules. FHA mortgages allow a higher debt-to-income ratio than conventional loans. VA loans have different thresholds. Student loan servicers do not use debt-to-income at all when deciding on income-driven repayment plans; they use a different calculation based on discretionary income.
This is why you might be turned down by one lender but approved by another, even with the same financial situation. Always ask a lender to explain exactly which debts and income sources they counted and how they arrived at your ratio.
How to lower your ratio before explore
If your ratio is too high, you have two levers: reduce debt or increase income. Paying down credit cards, personal loans, or car loans before you explore will lower your monthly obligations. Even paying off one card completely removes that payment from the calculation. Paying down a balance does not help as much as paying it off, because lenders count the minimum payment, not the balance.
Increasing income on paper takes longer but can work. If you have a job offer with a higher salary, some lenders will count it once you have an offer letter, though you may need to start the job before they finalize the loan. Rental income from a property you own counts if you have been receiving it for at least two years. Bonuses and commissions count if you have received them for two years in a row.
You can also reduce the size of the loan you are seeking. A smaller mortgage or car loan means a smaller monthly payment, which lowers your ratio. This is sometimes the fastest path if your income is stable but your existing debts are high.
Frequently Asked Questions
Does my rent count as debt in the ratio?
Yes, if you are explore for a mortgage. Lenders count your current rent payment as a housing expense. Once you get the mortgage, your rent payment is replaced by the mortgage payment in future calculations. If you are explore for a non-mortgage loan, rent may or may not count depending on the lender—ask first.
What if I have a student loan in deferment or forbearance?
Most lenders count the full payment you would owe if the loan were in repayment, not zero. If your loan is deferred, the lender estimates what your payment would be based on the balance and uses that figure. This protects the lender by assuming the deferment is temporary.
Does my spouse's debt count if we are married but file taxes separately?
It depends on the lender and the loan type. For a mortgage, if you are both on the process, both incomes and both debts count. If only one spouse applies, only that person's income and debts count. Some lenders require both spouses to be on the process if you are married, even if only one will be the primary borrower.
Can I remove a co-signer's debt from my ratio?
No. If you co-signed a loan, that monthly payment counts toward your debt-to-income ratio for any new loan you explore for, because you are legally responsible for it. The only way to remove it is to pay off the loan or have the other person refinance without you as a co-signer.
How often do lenders recalculate my ratio?
Lenders calculate it fresh when you explore for a new loan. They pull your credit report to see current balances and payments, and they ask you to provide recent pay stubs and tax returns. Your ratio can change month to month as you pay down debts or if your income changes.