Debt-to-income ratios (DTI) demystified

by Shawn Carvin, Senior Mortgage Banker

A borrower’s debt-to-income ratio (DTI) is one of the factors lenders take into consideration when evaluating a mortgage application for approval. At its simplest, the debt-to-income ratio is a comparison of a person’s debts with the income they have available to pay those debts.

Generally, the debt-to-income ratio is calculated for a one-month time period, and provides a snapshot of incoming and outgoing money. The debt-to-income ratio is useful in determining how much additional debt may be taken on without causing financial stress.

Types of debt-to-income ratios

There are actually a few distinct types of debt-to-income ratios, but for mortgage lending purposes, two ratios are most relevant. The first is referred to as the front-end ratio. This calculation compares monthly gross income with monthly housing costs, namely, the projected mortgage payment. While the front-end ratio does not provide an overall picture of a borrower’s financial capabilities, it does indicate how much housing expense a borrower can generally afford.

The back-end debt-to-income ratio encompasses all recurring monthly debt payments in addition to housing costs. This includes health insurance payments, child support and alimony obligations, credit card debt, car and student loan payments, etc. A borrower’s credit reports are a useful starting point for tabulating current debts, but any other debts which do not appear on credit reports must be disclosed by the borrower.

Calculating the debt-to-income ratio

When the debt-to-income ratio is calculated, debt is expressed as a percentage of income. For example, if a borrower has a gross monthly income of $6,000 and the projected mortgage payment is $1,500, the front-end DTI is 25% (1500/6000 = .25).

If the borrower has an additional $750 per month in debt payments, the back-end DTI is 38% (2250/6000 = .375). The calculated debt ratios are typically expressed in a notation like “25/38” where the first number is the front-end ratio and the second number is the back-end ratio.

Debt-to-income limits for mortgage lending

For conforming loans – mortgage loans which meet federally established guidelines – the current DTI limits are generally as follows:

Conventional loans

For conventional mortgages, most lenders look for a maximum DTI of 28/43

FHA loans

The current limits for most FHA loans are 31/43

VA loans

VA mortgages take only the back-end ratio into account; the current limit is 41

For non-conforming loans, higher DTI limits are sometimes available, but these loans are much more difficult to come by than they once were, due to the tightening of credit standards in the wake of the subprime mortgage crisis of 2007 – 2009.