Debt to income ratio is a calculation of the percentage of your monthly debt payments, compared with your gross monthly income. Monthly debt payments include mortgage payments, car payments, and any other minimum loan or card payments. Living expenses like gas, groceries, and utilities are not included.
Debt to income ratio is an important factor in qualifying for mortgages and other loans. The ideal DTI ratio for a mortgage is 36% or below. If your DTI ratio is too high, you may not qualify for the home loan you want. The lower the ratio the better!
Ways to Lower Your DTI Ratio
Pay off debts ahead of time
If you have extra room in your budget, you could make extra payments to speed up your debt payoff. Paying off smaller debts first, or debts with a high payment compared to their balance is recommended to get the best results.
Use a balance transfer to lower interest rates
Another strategy for lowering your debt payments is doing a balance transfer.
There are often credit card offers available with an introductory period of lower or no interest. You can transfer existing debt to a low or no interest card in order to reduce your minimum monthly payment and the total amount paid over time!
Look for ways to increase your monthly income
There are plenty of ways to earn extra income in addition to your monthly income. Upwork is a great tool for freelancers. If you have a specific hobby or craft to share on YouTube or Etsy, it can gain you extra funds every month.
Consider a 401(k) loan
You can take funds out of your 401k to pay off debt, and then repay the loan over time at zero interest. You will however need to pay taxes on the 401k loan amount. This can save a substantial amount on a high interest loan. Just be sure to repay the 401k loan to yourself as soon as possible to keep your retirement savings on track!
Refinance your debt
Refinancing can be a great option if you can qualify for a lower interest rate and change your repayment terms. This would apply to large loans such as student loans. You can extend the length of the loan to reduce your minimum monthly payments, which will also reduce your DTI ratio.
What’s the Bottom Line?
Reducing your DTI improves your overall budget, can help your credit score, and puts you in the right position to purchase a home you can comfortably afford. If you find yourself close to the 37 percent threshold, take steps now to reduce your monthly debt payments.