In this post you will learn :

• How bank calculate your income to debt ratio.
• How to calculate your debt to income ratio.
• What is my debt to income ratio with investment property.

Only recently I realized how easy it is to calculate you debt to income ratio. I've been working with a banker for a few years and this was the last piece of puzzle that I didn't bother to dig into.

No debt:

Let's start with a simple case. Assume you make 120000$ and have no debt. In this case your monthly income is 120000/12= 10000$.

Well's Fargo allows you to go up to ~43% debt/income ratio.

This means you can borrow with total monthly housing expense of 4300$ (for mortgage and taxes). Assuming taxes is ~1000$, this means you can have a mortgage of at most 3300$.

With debt.

Now assume you have student loans and a car loan. Assume it is
student loan = 700$/month
car loan = 300$/month

Now you're debt has increases. You still need to be below 43%, so this means
(debt + mortgage + taxes) / income <= 43%

This means your mortgage and taxes needs to be less than 3300$.

House with investment property

Now assume you have a mortgage. Your income is 200k$ and the mortgage and taxes is 4500$/month.
Your debt to income in this case is
4500$/ 16666$ = 27%

If you have rental income (renting part if your house), this income can be added with a 25% penalty. For example if you generate 4k$ by renting part of your house, the bank will take 75% of it and add to your income.

Income = 16666$ + 4000* 0.75 = 19666$

Now your debt to income is at:
4500$/ 19666$ = 22.8%

How big an investment property can I buy?

I have been looking at getting a rental property. I already had a pre-approval for 950k$ but the rental property I was looking at was closer to 1.7M$ with income. How was wondering what criteria do bank use to detrrmine if they want to lend you money for real estate.

But running through the numbers, I realize the property is more affordable that I thought since it has an income (it is a duplex).

From the data point of 43% debt to income ratio, we can easily find what is the maximum debt I can take.

$$ \frac{debt}{income + rentalincome} = 0.43$$

$$ debt = (income + rentalincome) * 0.43 $$

debt = 19666$* 0.43 = 8456$
This is assuming no rental income from the new property. With rental income.

Buying a multi-family

Another option is to buy a multi-family property and live in one of the unit. The income also increases with the rents.

Let's update out scenario:

• income/month = 16666$
• renting primary house = 4000$
• multi-family rental income = 5000$

$$ \frac{debt}{income + rentalincome * 0.75} = 0.43$$

16666$ +( 4000+ 5000)*0.75 = 23416

This means I can afford a total debt of 10062$. Removing the current debt on the primary house, I have 5500$ left I can borrow with. This accounts for a mortgage and taxes of ~1M$.

So it looks like even if I have a rental income the multiplier to your income is not as big as employment income.

Conclusions

Calculating your debt to income ratio relatively easy. You can easily do this before you go talk with a banker so you're prepared. Also if you plan to buy a house in a hot market (such as NYC,SF,LA,etc...) you need to be able to make quick calculation to see if you can get a mortgage. I hope this post will help you.