What is debt-to-income ratio?
Debt-to-income (DTI) describes the percentage of your income each month that goes towards paying off debt. To estimate your DTI ratio, simply subtract your monthly outgoings from your take home salary.
Payments that can affect your ratio include your housing costs (mortgage or rent payment), utility bills, personal loans, credit cards, and student loans. Your income is made up of your wages as well as any regular tips or bonuses.
Can I get a debt consolidation loan with a high debt-to-income ratio?
While it is possible to obtain a debt consolidation loan with a high debt-to-income (DTI) ratio, you may find that your options are limited. This is because lenders use DTI as a measure of loan affordability.
Typically, a ratio of 35% or less is considered low/good, while anything above 45% is considered high/bad. But as one consequence of debt consolidation can be to reduce monthly repayments, many lenders will calculate what DTI would look like after consolidation.
How debt consolidation works
Debt consolidation is the process of merging multiple debts into a new loan with one manageable monthly repayment. Depending on your eligibility, you may be able to secure a debt consolidation loan with a lower interest rate or a longer loan term (with lower repayments) than your existing debts.
There are several ways that you can consolidate debt:
- Personal loan – take out a new loan to pay off your existing debts.
- Secured loan – take out a loan secured against your home.
- Balance transfer credit card – move your outstanding credit card debts onto a new card with a low or 0% interest rate. A good credit score may be required.
- Remortgage your home with additional borrowing – switch your current mortgage deal for a new one and release equity in your property which you can use to pay off your debts.
How does a high debt-to-income ratio affect debt consolidation loan eligibility?
Before approving your loan application, each lender takes different factors into account and gives them a different weighting, which can include:
- Your DTI ratio
- Your credit score
- Your affordability
- Your financial history
- Your employment status and income
If you have a high DTI ratio, lenders may consider you more of a risk. The amount of debt you already have might make them concerned about your ability to manage your consolidation loan repayments responsibly.
To compensate for this added risk, you might be offered a loan with a high APR. To determine whether a debt consolidation loan is right for you, consider the pros and cons. Debt consolidation can lower your repayments, make them more manageable, and help you pay off your debts faster. However, you may pay back more in interest overall.
You might also want to explore other debt relief options, such as a Debt Management Plan (DMP) or Individual Voluntary Arrangement (IVA). You might also find it easier to qualify for a secured loan or homeowner loan, but keep in mind that your collateral will be at risk should you fall behind with repayments.
Can I get a loan with a high debt-to-income ratio?
Yes, it is possible to get a debt consolidation loan with a high DTI ratio.
However, you might find it more difficult to be approved.
To increase your chances, consider:
- Applying with a lender or broker that specialises in offering loans to customers with a high DTI ratio
- Getting a loan with a higher APR (rate of interest)
- Applying for a joint loan
- Applying for a loan with a guarantor
Alternatives to debt consolidation loans
If you can’t qualify for a debt consolidation loan due to your high DTI ratio, there may be other options available:
- Continue to pay off your existing debts and wait it out, focusing on clearing those with the highest APR first
- Take steps to improve your credit score over time before making a new application
- Use any available cash savings to settle your smallest debts and reduce your DTI
- Consider a Debt Management Plan or Individual Voluntary Arrangement (IVA)
Will a debt consolidation loan help my DTI ratio?
Yes, in most cases, a debt consolidation loan can help to improve your DTI ratio.
If you take out a new loan with a longer term and lower monthly payments and use this to pay off your existing debt, you can reduce the number of credit agreements you have to pay and the percentage of your monthly income that goes towards your debt.
A debt consolidation loan could also help you reduce your risk of missing payments and improve your credit score over time (if you manage your new repayments responsibly).
NEED TO KNOW: You may end up paying more back overall with a debt consolidation loan due to the interest applied over time.
Secured vs unsecured debt consolidation loans
A secured debt consolidation loan requires an asset such as your home to serve as collateral. This asset provides security to the lender and may be repossessed if you default on the loan.
An unsecured debt consolidation loan does not require any collateral but represents a higher risk to the lender so may come with a higher rate of interest or strict eligibility requirements.
How to lower your DTI
There are several ways that you could lower your DTI without consolidating your debt:
- Pay off your loans early – Use any cash savings or an annual bonus to pay off your smallest debts or highest-interest accounts ahead of time. Keep in mind that early repayment fees may apply.
- Reduce your overall spending – Implementing a budget and minimising your monthly outgoings may improve your DTI ratio and free up more funds to pay down your existing debts.
- Correct any mistakes on your credit report – If your DTI percentage is being affected by mistakes on your credit report, you can raise these with the relevant credit reference agency. A loan that has been repaid, for example, might still show on your report or a debt that doesn’t belong to you could have been added by mistake.
- Use a balance transfer credit card – Depending on your eligibility, you may be able to transfer your existing credit card debts onto a card with a low or 0% interest rate, reducing your monthly repayments and helping you pay off the debt faster.
- Refinance existing loans – Refinancing is a lot like debt consolidation, but it involves switching a single existing loan for one with different terms that better suit your current circumstances. This could be with the same lender or a new one. Refinancing is an option for people with car finance loans, mortgages, and more.
If you’re struggling with debt, you can access free financial advice and support from a professional debt specialist. Visit Money Wellness, StepChange, Citizens Advice, National Debtline, or Money Helper to find out more.
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Intelligent Lending Ltd is credit broker, working with a panel of lenders. Homeowner loans are secured against your home.