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Simple English definitions for legal terms
debt-to-income ratio
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A quick definition of debt-to-income ratio:
The debt-to-income ratio is a way to measure how much money a person or organization makes compared to how much they owe. It helps lenders decide if someone can handle making monthly payments to pay back a loan. To calculate it, you add up all your monthly debt payments (like a mortgage, car loan, and credit card balance) and divide that by your gross monthly income. Lenders usually want this number to be under 36%, but you can still get a loan with a ratio up to 43% if you meet certain standards.
A more thorough explanation:
The debt-to-income (DTI) ratio is a measure of how much income a person or organization generates to service their debt. It is calculated by dividing all monthly debt payments by gross monthly income. Lenders use this ratio to determine if a borrower can manage monthly payments to repay borrowed money.
For example, if a person pays $2,000 a month for a mortgage, $300 a month for an auto loan, and $700 a month for credit card balances, their total monthly debt is $3,000. If their gross monthly income is $7,000, their debt-to-income ratio is 42.8% ($3,000 divided by $7,000).
Traditionally, lenders have set guidelines that a borrower's housing costs (mortgage principal and interest, homeowner's insurance, and property taxes) should not exceed 28% of their gross income, and their overall debt (housing costs plus car and other loan payments) should not exceed 36%.
Most lenders prefer a debt-to-income ratio of under 36%, but a borrower can still qualify for a mortgage with a ratio as high as 43% if they meet certain standards.
Overall, a lower debt-to-income ratio indicates that a borrower has more income available to pay off their debts, making them a more attractive candidate for lenders.