Debt Reduction – Taking a Look at Your Debt to Income Ratio

One of the main reasons why many Americans look to bankruptcy and other measures of debt reduction to clear their debt is because statistically as a country we have a very high debt to income ratio; sometimes well above 50% per household. This ratio can prevent people from obtaining financing, establishing credit, and can also get you in a major bind with many of your own creditors. You can calculate this ratio by taking the percentage of the debt you have versus how much income you bring home.

Before any loan is approved, your DTI is calculated. This calculation is run because if your DTI is too high, you run the risk of not being able to pay your creditors each month and therefore you will be prevented from adding any additional debt; a person with a high DTI is a high risk consumer.

First take your monthly income; this should include all wages, child support, alimony, annuities, or any other monies that come in to the household monthly. If you happen to have income that varies, you will need to add up the most recent 6 months of wages and get an average of your standard income.

Next, you will have to calculate all your debt; this includes the payments you make monthly on all outstanding balances. Do not include your utility bills, just your credit cards, car payment, mortgage, child support, personal loans, and any business loans. If you know that any of these balances will be paid off within 3 months, do not include it. Lastly, divide your monthly expenses by the monthly income and you will calculate your debt to income ratio.

Example:

The next thing to be calculated is the debt you have incurred. Debt does not include any utility bills, but it will include credit card balances, mortgage, child support, business loans, personal loans, the car payment, etc. Do not include it if it will be paid off within three months.

Finally, go ahead and divide your monthly expenses by the your monthly income. This will give you the debt to income ratio.

Example:

Monthly Income = $3500

Your Monthly Income = $4000
Fixed Monthly Expenses = $2,300

DTI = 49%

This debt to income ratio is very poor and shows that expenses are so high that it would be very difficult to gain any additional credit or financing.

The first step of debt reduction is always taking a look at where you currently stand, and that is through obtaining your debt to income ratio.

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