Debt-Service Ratio |
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The proportion of total monthly consumer credit obligations (payments) to total monthly gross (pre-tax) income. The formula to compute the debt-service ratio is: For example, a married couple with a total of $750 per month in consumer loan payments and total monthly pre-tax income of $3,200 would have a debt-service ratio of 23%. (750 / 3200 = .23, or 23%) Many experts like to see a general target level of 30 percent as the maximum debt-service ratio; some financial planners prefer to see levels of 20 percent or less. Regardless of preference, the smaller the percentage, the better. NOTE: In its purest form, the debt-service ratio considers only "loan payments," such as auto loans, mortgage loans, installment loans, and personal loans, in its denominator. This would exclude current liabilities, such as credit card payments. However, for purposes such as mortgage loan applications, these amounts are almost always included. | |||