Debt-to-income ratio impacting your credit score

Debt-to-income ratio, more commonly known as DTI, is the percentage of a consumer’s monthly gross income that goes towards paying debts. [Source: Let us assume your current monthly payments amount to Rs. 2.0 lakhs, and your total monthly income is Rs. 4.0 lakhs. This would mean a DTI ratio of 50%, and includes all obligations – home or auto loans, credit card payments, and any other scheduled monthly credit related payments. Globally, most conventional loans require your DTI ratio to be less than 36%, to avail of a new line of credit.

Debt-to-income ratio impacting your credit score
Credit Score

What do lenders consider?

Your DTI ratio helps a lender evaluate how much risk you can handle additionally, as well as the credit risk you pose. If your DTI ratio is low, it is more likely that you have the income required to pay off your debts. Conversely, if it is high, you may have a difficult time paying off any new obligations.

On the other hand, a credit score is a numerical indicator that helps lenders evaluate the risk of extending credit or loaning money to a consumer. It predicts the likelihood of a customer going bad or delinquent within the next 12 months.

How does this impact my credit score?

Your DTI ratio does not directly impact or improve cibil score. This is because your income is not mentioned in a credit report, and bureaus generating the score are unable to do the calculation. However, while it is not one of the key factors that are considered while calculating the credit score, it can have a significant impact on your ability to get credit.

A lender will often request for documentation supporting your income, in order to calculate your DTI ratio. Hence, your debt-to-credit ratio (which tells you about the amount of credit you are using, of the total assigned to you) gains significance, and not the DTI ratio.

Hence while both debt-to-income and debt-to-credit ratios are used to determine whether your application for a home or auto loan, for example, will be approved, it is only the debt-to-credit ratio that has a real impact on your credit score.