You have a steady salary, timely payment of credit card bills and loan EMIs, and a decent credit score. Have you been denied a loan for a house? Your debt-to-income (DTI) ratio could be the answer. Aside from a decent credit score, banks consider a loan applicant’s ability to pay off additional debt when evaluating their financial fitness. The CIBIL score reveals how a person’s previous loans were serviced. But it makes no mention of his ability to service more loans. On the other side, the debt-to-income ratio (DTI) assesses a person’s ability to manage debt repayments.
Debt to income ratio
The debt-to-income ratio (DTI) is calculated by dividing your monthly debt payments by your gross monthly income. Moreover, lenders use this method to determine your ability to make monthly payments on the money you want to borrow. It’s computed by dividing a person’s total monthly debt commitments, such as credit card minimum payments, vehicle loans, student loans, and so on, by his net monthly income. Lenders use the DTI ratio to determine how much additional debt an applicant can manage. A low DTI indicates that you have an excellent debt-to-income ratio. For the most part, banks use a DTI of 40% as a criterion for approving loans.
Impact of debt to income ratio on home loan eligibility
Most borrowers will understand the relevance of a credit score in determining home loan eligibility. The debt-to-income ratio, like the credit score, is an important factor in determining whether or not you are approved for a house mortgage loan. Also, the debt to income-ratio is divided into two types.
The front-end ratio
It is the total sum of all your monthly house-related expenses – home loan EMIs, home insurance, homeowners’ association fees, and home maintenance charges – divided by your monthly income. It is also known as the housing ratio.
The back-end ratio
All of your debt expenses — credit card payments, vehicle loan EMIs, personal loan EMIs, and other debts – are divided by your monthly income to calculate your back-end debt to income ratio.
Back-end debt-to-income ratios are often larger than front-end debt-to-income ratios because the former covers all of your debts, whilst the latter just includes your home-related expenses.
When determining your home loan eligibility, lenders typically look at your back-end debt-to-income ratios. It aids lenders in determining a borrower’s creditworthiness.
How to lower your debt to income ratio?
The debt-to-income ratio you have can make or break your ability to get a home loan. If you have a greater number, there are some clever techniques to swiftly lower it.
Pay off your loan ahead of your schedule
One of the key causes of your high debt-to-income ratio is that you have a lot of debt. So, you can get around this problem by paying off your present debts ahead of time. If you can’t pay off all of your debts, aim to pay off one or two of them to lower your DTI ratio.
Try to negotiate a higher pay
Increasing your monthly income, in addition to lowering your debt, is another approach to improving your DTI. If you’re due for a raise in a few months, see if you can work with your supervisor to get it right away. Alternatively, you can increase your income by taking on additional tasks at work.
Extend the duration
You can save money on your monthly debt payments by extending the term of a loan. To compensate, you may have to pay a higher interest rate. If your income is disturbed, you’ll also be putting yourself in a position to take on more debt.
Transferring existing loans
Moving your existing loans to a lender with cheaper interest rates is another great technique for lowering your DTI ratio. Reduced interest rates result in lower monthly EMIs, lowering your DTI ratio.
Make sure you understand your debt-to-income ratio before approaching a lender for a home loan. To calculate your DTI ratio, use an online calculator. In conclusion, the smaller the number, the greater your chances of being approved and the better your financial situation. Use the suggestions in this article to lower your DTI ratio and boost your eligibility.