The Importance of Balancing Your Debt to Credit Ratio
The debt-to-income ratio can be expressed as a personal finance measure that is helpful in comparing an individual’s debt payments to the income generated by him/her. This measure is important in the lending industry for it provides the lenders with an idea about the possibilities of the borrower repaying the loan.
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The lower your debt-to-income ratio, the better because it means you don’t spend much of your income paying debts. On the other hand, a high debt-to-income ratio means more of your income is spent on debt, leaving you with less money to spend on other bills or save and invest.
Like the balance-to-limit ratio, it is important to keep your debt-to-income ratio low to show that you are not overextended or abusing credit. While credit scores might not consider the debt-to-income ratio, they do factor in the installment debts and whether your payments are made on time, so you should treat those debts with equal seriousness.
The formula for calculating your credit utilization ratio is pretty straightforward. To figure it out for an individual card, divide your credit card balance by your available credit line. If you’ve only got one credit card and you’ve spent $400 out of a possible $2,000 this month, your debt-to-credit ratio is 20%.
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The Debt to Credit Ratio is based upon both your revolving and installment loans. It is the percentage of the credit available to you that is used up with debt. Available Credit is Important to Credit Score. Imagine a bath tub that is empty. It is 0% full. Gradually, you fill it with water. When it is about to overflow onto the bathroom floor, it is 100% full. Your credit rating is the same way. When you start out, you have "No" credit rating.
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The 43 percent debt-to-income ratio is important because, in most cases, that is the highest ratio a borrower can have and still get a Qualified Mortgage. There are some exceptions. For instance, a small creditor must consider your debt-to-income ratio, but is allowed to offer a Qualified Mortgage with a debt-to-income ratio higher than 43 percent.
Is there a financial product via which I can safely temporarily borrow against my home? Is there a financial product that will allow us to borrow the sum needed, taking our assets as collateral instead of our income when decided whether it is safe to lend us the money? Generally, no. A lending decision like a mortgage or home equity loan is based off debt to income ratio (among other factors) because that’s a good proxy for cash flow.
Next, divide your monthly debt payments by your monthly gross income-your income before taxes are deducted-to get your ratio. (Your ratio is often multiplied by 100 to show it as a percentage.) For example, if you pay $400 on credit cards, $200 on car loans and $1,400 in rent, your total monthly debt commitment is $2,000.