What Is the Back-End Ratio?
Let me explain the back-end ratio directly to you—it's also called the debt-to-income ratio, and it shows what part of your monthly income is used for paying debts. This includes things like your mortgage payments (covering principal, interest, taxes, and insurance), credit card bills, child support, and any other loan payments.
You calculate it with this formula: Back-End Ratio = (Total monthly debt expense / Gross monthly income) x 100. Lenders look at this ratio along with the front-end ratio when deciding on mortgage approvals. The lower your back-end ratio, the less risky you appear to them.
Key Takeaways
Back-end ratios reveal the percentage of your income that's going to other lenders. To figure it out, divide your total monthly debt expenses by your gross monthly income and multiply by 100. Mortgage underwriters rely on these ratios to gauge your risk as a borrower. Typically, lenders want your long-term debt and housing expenses to be less than 33% to 36% of your gross income.
How Back-End Ratio Works
The back-end ratio is one of the key metrics mortgage underwriters use to evaluate the risk of lending to you. It matters because it shows how much of your income is already committed to others. You might also hear it called the total fixed payments to effective income ratio.
Lenders generally require that your long-term debt and housing expenses stay under 33% to 36% of your gross income. If a big chunk of your paycheck is tied up in debt payments each month, you're seen as high-risk. That means a job loss or drop in income could quickly lead to financial trouble and missed payments for you.
How to Calculate a Back-End Ratio
Calculating the back-end ratio is straightforward: add up all your monthly debt payments, divide that sum by your monthly income, and multiply by 100. Take a borrower with a monthly income of $5,000 (that's $60,000 a year divided by 12) and total monthly debts of $2,000. Their back-end ratio comes out to 40%: ($2,000 / $5,000) * 100.
Lenders prefer this ratio to stay at or below 36%, but some will go up to 50% if you have strong credit. Certain lenders use only this ratio for mortgage decisions, while others combine it with the front-end ratio.
Back-End vs. Front-End Ratio
The front-end ratio is similar to the back-end but focuses only on your mortgage payment, ignoring other debts. You calculate it by dividing just the mortgage payment by your monthly income. Using the earlier example, if $1,200 of that $2,000 debt is the mortgage, the front-end ratio is ($1,200 / $5,000), or 24%. Mortgage companies often cap this at 28%, though they might be flexible if you have good credit, steady income, or solid reserves.
How to Improve a Back-End Ratio
You can lower your back-end ratio by paying off credit cards or selling a financed car. If you're refinancing and your home has enough equity, a cash-out refinance could consolidate other debts and help. Keep in mind, though, that cash-out refinances carry more risk for lenders, so the interest rate might be a bit higher than a standard refinance. Plus, many lenders will require you to close the accounts you're paying off to prevent running up new balances.
What Are the Back-End Ratio Requirements?
Lenders typically look for a back-end ratio of no more than 36%, but some allow up to 43%.
What Is a Front-End Ratio?
The front-end ratio measures your housing expenses relative to your total income. Calculate it by dividing your total housing costs—like mortgage payment, property taxes, mortgage insurance, and HOA fees—by your income.
What Is a Good Front-End Ratio?
A good front-end ratio is usually 28% or less for mortgage approval. The lower both your front-end and back-end ratios are, the better your chances of getting approved.
The Bottom Line
Grasping your back-end ratio is essential when you're gearing up for a mortgage or other loans, since lenders use it to judge your risk level. You can better it by cutting debt and boosting income. I suggest talking to a financial advisor to see how it fits into your overall finances.
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