In looking at your finances, it is helpful to realize that whether the amount you owe is a warning signal can only be determined by calculating your "Debt to Income Ratio". The formula for determining Debt to Income Ratio is frequently used as an indicator of you're ability to repay loans and handle credit cards by banks and other lenders. If the result of your total monthly fixed expenses divided by your gross monthly income converted to a percentage is greater than 36%, your credit rating will be negatively impacted.
How to Calculate Your Debt-to-Income Ratio
Calculating you Debt to Income Ratio is easy:
Below is an example:
- Make a list of all your monthly fixed expenses (mortage payment, credit card payments, loan payments, car payments, child support, etc.). Do not include variable expenses such as groceries and utility bills.
- Calulate the total of your monthly fixed expenses
- Calculate you gross monthly income before taxes and deductions. Include all income sources
- Divide your monthly fixed expenses by your monthly gross income. Multiply the result by 100. The answer is your Debt to Income Ratio
Fixed Monthly Expenses
If your Debt to Income Ratio is less than 36%, you are not carrying too much debt.
Auto Loan: $219.00
Child Support: $125.00
Credit Card Payments: $150.00
Home Equity Loan: $154.00
Total Fixed Monthly Expenses = $1518.00
Gross Monthly Income
Husband's Salary: $4220.00
Wife's Salary: $1200.00
Total Monthly Gross Income = $5240.00
Result of Calculation:($1518.00 / $5240.00) X 100 = 29%
If the ratio is greater than 36% but less than 43%, there's a possibility that you could get into financial difficulty and should start paring down.
If the ratio calculates to greater than 43% but less than 50%. you can expect finacial problems very soon and should start to aggressively reduce your debt
A ratio of over 49% is considered by most to be a state of serious finacial problems. You should seek out professional help to get out of debt as quickly as possible. Credit counseling can help you learn how to manage your money more effectively.
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