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The Balancing Act of Keeping a Healthy Debt-to-Income Ratio

ByShawn Paul Wood

Almost half of all Americans carry debt on their credit cards month-to-month, impacting their mental health, financial stability, and a crucial financial metric known as the debt-to-income ratio. You aren’t alone if you’re unfamiliar with this financial wellness tool.

Your debt-to-income ratio (DTI) is the sum of all your monthly debt payments divided by your gross monthly income. Lenders use this number to measure your ability to manage your monthly payments and repay the money you plan to borrow. 

If your DTI is higher than reasonable, lenders may view you as a higher risk. This can affect your ability to secure loans for major purchases, like a new car or home. Managing your DTI effectively is crucial to minimize being a “high-risk borrower.” But how do you manage it? 

Understanding DTI is the first step. Once you grasp the basics, the math is relatively straightforward. Our experts at Beyond Finance are here to offer additional tips.

What Creates a Debt-to-Income Ratio?

Debt business economy of money and finance word debt on coins with business man

First, understanding how the debt-to-income ratio works could help your financial practice skills. There is a two-part formula that determines your DTI. 

  • Front-end Ratio – Consider what you reserve for housing costs (e.g., rent or mortgage payments, homeowners association fees, property tax). Also known as the “housing ratio,” this front-end is the primary part of the debt-to-income solution. 
  • Back-end Ratio – Much like scenery or a picture in the background of a video call, the back-end ratio is what you spend on most other primary payments (e.g., utilities, bills, student loans, credit cards). 

When those two numbers meet, that’s your debt. The ratio is that number placed against your monthly income. Lenders begin thinking you would have difficulty paying your new potential loan back if it’s higher than 40% (the odd maximum percentage is 43%). 

For those cringing at the thought of math in everyday life, it’s only simple division. You can do it!

What Makes Debt-to-Income Ratio Important?

Several stacks of coins with wood blocks on top representing the concept of financial risk.

Understanding your DTI and what it signals to lenders can help motivate you to bring it down to a manageable level and keep it there. A lower DTI signals to lenders that you have a balanced financial approach, making them more likely to offer you loans.

Outside of being an athlete, a business executive, or independently wealthy, the likelihood of having to borrow money is high. Statistics show that 23 million Americans have borrowed an average of $12,000 for significant purchases or unsecured personal loans. 

Yet, if that number brings you above that 40% to 43% threshold, it could harm your DTI. Borrowing less and paying more is typically the most effective way to manage your debt in the eyes of lenders. 

That can be difficult in this economy, so seeking insightful advice and practical tips for managing your finances is a good idea. 

How Can You Reduce Your Debt-to-Income Ratio?

Close-up of US paper currency with a calculator reflecting a debt-to-income ratio

Your monthly gross income remains steady until you find a new job or gain a promotion. The only way to influence this financial metric is to tackle your debt, which controls your income. From minimal payments to maximum spending, the debt-to-income ratio is one of the most critical numbers you may not know. 

There are four primary reasons why this number matters, and those can open the door to gaining access to more money for those more substantial expenses. 

  • Creditworthiness–It sounds like a strange word for Scrabble. This title is usually next to your name when you apply for a loan. If you measure high in this area, it’s likely you pay your loan on time and in full. 
  • Score–Many Americans know about credit scores, but when assessing your DTI, your credit utilization score (CUR) is only a minor factor. It’s still essential, but a high number isn’t necessarily a red flag. 
  • Savings–One in five Americans have no savings, and only two can afford a financial emergency over $400. If you can’t save money, lenders think in different terms. They could interpret that a minor financial inconvenience could lead to a major catastrophe to your bank account, which signals that your loan could go into default. 
  • Stress–Financial stress isn’t only used at Beyond Finance. It is an agent used to determine whether one can handle financial difficulties. A skyrocketing debt-to-income ratio could be interpreted as troubled by debt, which lenders do not want in a borrower. 

A DTI is more than an answer to a random math problem; it’s a solution to whether you can be trusted with a lender’s money. Managing that number can reduce stress and increase the likelihood of financial success. Your path to financial success and peace of mind is free of obstacles.

If you need help with that objective, we are here to help. We offer a free, no-hassle assessment to determine your financial path. You can get out of debt, and you are not alone. Lower your DTI and begin a new financial journey today.