Many people get into serious debt, way over their heads, because they don’t keep their debt manageable—meaning they can’t repay their debts. For this reason, many cannot begin to save sufficient income for retirement.

Debt-to-income ratio The debt ratio we are examining here is the percentage of your total monthly debt repayments that you are obligated to pay back against your debts, in relation to your gross pre-tax monthly income (total debt repayments per month/gross monthly income).

Financial institutions will assess this ratio when applying for credit. Some allow 40%, some may allow upwards to 50% if you have a stable job, investments, and a high net worth.

When considering your total gross income, add up your own, plus a spouse’s (or common law spouse’s) income, if they are co-signing the loan. You can also add any monies that you receive from investment income.

Here is where you can get a snapshot of your debt-repayment situation and get a glimpse of financial reality. You can find out if you are already in too deep to add on any more debt right now (especially if your job is not stable). List and add all your monthly repayment obligations on your debt; for example the minimum credit card payments per month, car loan payment, and include your rent or mortgage payment. For more clarity, don’t just use minimum payments on your credit cards, but payments that would repay your cards totally over one year.

Now divide your total household’s monthly repayments, by your gross monthly pay(s). Hit the % sign on your calculator when dividing to give you the percentage ratio. Some people, who are in financial duress, may find they are running near or over 100%–much higher than the allowable figure. View the creditor’s ratio, as a financial tool to adapt yourself in defense of your credit standing, so that you will not borrow over your ability to repay.

View a turned-down loan as a goodwill warning. If you go over your safe ratio each time and get a co-signer to acquire too much credit, you may place your ratio at a dangerous level. Regard your debt-to-income ratio as your personal monitoring system before you approach any creditor to borrow. In this way, you’ll maintain enough cash flow to invest for retirement and meet emergencies that may pop up without warning. A safe ratio allows for a sense of financial peace and enables you to enjoy the freedom of having the cash to spend, versus placing your entire income in bondage to your debt.

Make sure you include your rent or mortgage payment. Rent or board payments are a replacement of what would usually be considered prepayment on a mortgage debt in this ratio.

When debt ratios are higher than average, you may be spending all your disposable income trying to stave off debt. This often ruins the potential to enjoy investing or retirement. If paying off debt continues into retirement, it can then add insult to injury — it can eat into your retirement income.

Source: Adviceon