Your debt-to-income ratio (DTI) and your credit score play crucial roles in lenders’ decision making processes when determining whether to approve you for a loan or credit.
1. Debt-to-income ratio (DTI): This is a measure of personal finance that compares the amount of debt you have to your total income. Lenders utilize the DTI ratio to assess your ability to handle monthly payments required to repay borrowed money. To calculate your debt to income ratio, you add up all your monthly debt payments and divide them by your gross monthly income. A lower DTI can make you appear less risky to lenders.
2. Credit score: This numerical evaluation reflects a consumer’s creditworthiness based on their credit history. Lenders rely on credit scores to gauge the likelihood that an individual will repay loans punctually. Credit scores range from 300 850, with higher scores indicating better creditworthiness. Factors influencing your credit score encompass payment history, outstanding debt, length of credit history, variety of credit types used and recent inquiries or applications for new credit.
While both aspects are crucial, they evaluate different facets of a borrower’s financial stability. Your credit score reflects your past credit behavior, such as timely payments, credit history duration and credit utilization. On the other hand, your DTI provides a snapshot of your present financial obligations in proportion to your income, which determines your ability to handle additional debt.
It is possible to possess a good credit score but have a high DTI ratio, which could make loan approval more challenging. Conversely, you may also have an excellent credit score combined with a low DTI ratio, making you an ideal candidate for borrowing. Lenders favor borrowers with high credit scores and low DTI ratios as it signifies a reduced risk of defaulting on payments.