A high debt-to-income (DTI) ratio limits you to the least favorable financing terms, makes it difficult to pay your monthly bills, and virtually impossible to save for retirement, emergencies, and your life goals. You’ll want to do everything you can to keep your DTI low, and here are five tips to help you.
What Is Your DTI and What Should it Be?
Your debt-to-income, or DTI ratio, is your total monthly income divided by your monthly debt payments. To calculate, be sure to include all your fixed monthly expenses, such as
- credit cards
- personal and student loans
- alimony or child support,
- and all other debt.
Lenders examine your DTI to determine if you’re a safe credit risk. It’s an easy way for them to assess your ability to make the monthly loan payment. The lower your DTI, the more likely you’ll be approved for financing and secure the best terms. A high DTI could result in a rejection of your application.
What should it be?
The ideal debt-to-income ratio is 35% or lower. Lenders believe you’ll have plenty of money left over to not only repay the loan but to stay current with your other monthly obligations.
A DTI between 35% and 49% doesn’t set off alarm bells, but it might indicate that you are stretched a bit thin. Lenders will question how you’ll handle emergency expenses. You’ll still qualify for approval, but you might not get the best financing terms.
If your DTI is 50% or higher, this means that at least half of your monthly income is going to debt. As a result, you’re not likely to be approved for financing.
5 Ways to Keep Your DTI Low
1. Calibrate Your Budget
Your budget is your roadmap for every aspect of your financial life. Without a budget, you can easily exceed your monthly income, causing you to go into debt and ruin your credit score. One way to keep your DTI low is to prepare or review your budget and look for unnecessary expenses. Separate needs from wants and look for ways to postpone expenses that you can’t afford. By finding room in your budget, you’ll have more cash to devote to debt reduction.
2. Refinance Your Debt
Refinancing your debt is one way to reduce your monthly debt payment. When you refinance, you get a new lower-interest loan and use the proceeds to pay off the old debt. If your credit score has improved since you took out the loans, refinancing is a smart move. Eliminating debt keeps your DTI low.
3. Apply for a Balance Transfer Card
Another smart way to keep your DTI low and get out from under credit card debt is to take out a balance transfer card to pay off your high-interest credit card accounts. Many credit card carriers offer 0% APR for an introductory period. With discipline, you can use the introductory period to eliminate your credit card debt and make serious progress in reducing other debt obligations.
4. Increase Your Income
If it’s impossible to bring down your debt payments, the other way to keep your DTI low is to increase your income. There are few ways to do this:
- ask for an increase in your salary or a better hourly wage
- find a better-paying job
- take on a side hustle.
5. Assess Your Progress Monthly
Get into the habit of re-calculating your DTI ratio every month. In this way, you’ll see your progress and can celebrate your accomplishments, no matter how small. It’s a great way to maintain momentum and stay focused on your goals.
Keeping your DTI low saves you money and empowers you to realize your long-term financial goals. Reducing debt, especially high-interest debt, is the primary way to improve your cash flow and lower your DTI ratio. So commit, stay focused and celebrate your successes.