Knowing your debt-to-income (DTI) ratio is an important part of understanding your finances and how to manage them. If you want a better financial strategy and to increase your chances of getting approved for a mortgage, read on to see what role debt-service ratios play.
What is Debt-to-income Ratio in Canada?
In Canada, the DTI ratio refers to how much of your disposable income goes towards your total monthly debt payments, represented by a percentage. Your DTI plays a significant role when you apply for loans, like car financing or mortgages.
In Canada, two debt service ratios are often assessed: the total debt service (TDS) ratio and the gross debt service (GDS) ratio. To qualify for mortgages from traditional lenders, the maximum GDS ratio is 39% or less and the maximum TDS ratio is 44% or lower.
- GDS ratio—this ratio indicates how much of your monthly household pre-tax income goes towards your mortgage payments and housing-related expenses, like property tax and utilities, with interest included.
- TDS ratio—this ratio shows how much of your pre-tax income is required to service all your debts, including debt obligations like credit cards or student loans.
How To Calculate Debt-to-income Ratio in Canada
Calculating your DTI ratio is simple, allowing you to better understand how much of your income will be servicing debts. You can also find calculators online to do the calculations for you.
You can calculate the TDS ratio by adding up your monthly total debt, including credit card debt, student loans, and mortgage payments. Remember to include 50% of the condo fees if you live in a condominium or 100% of the ground rent if you have a chattel or leasehold loan, otherwise you can leave it out.
Once you’ve added everything, divide it by your total monthly income. Multiple it by 100, and you’ll get the result as a percentage.
The formula for GDS ratios is similar. The difference is that it only calculates housing costs, such as mortgage payments, property tax, fees, and heating. Add your additional debt to the housing expenses, divide it by your monthly income, and multiply it by 100 to find your TDS ratio.
What do the percentages mean?
The results from both calculations show your financial health and ability to sustainably service your existing outstanding loans. Generally, the lower the percentage, the easier it is to qualify for a new loan and get better loan terms.
If you’re applying for a mortgage, your TDS ratio cannot be more than 44%, and your GDS cannot exceed 39% to be eligible. If your debt ratios are under the maximum limit, you will likely get approved at traditional financial institutions.
The ideal budgeting plan is to use about 30% or lower of your income to repay your outstanding dues. Low debt service ratios mean you manage your finances effectively and can take on additional financial responsibilities.
A high percentage means that a significant amount of your income would be dedicated to repaying your debt rather than saving it. Getting approved for a mortgage and other loans may be challenging, especially with traditional lenders.
Why The DTI Ratio Matters
Knowing your DTI ratio is not only for financial institutions and lenders but also for you. Some of the reasons to know your DTI includes:
- Loan approvals—as indicated earlier, debt service ratios in Canada plays a significant role in your ability to get approved for a loan. If you want to start a business, get another mortgage, or get a new credit card, lower DTI ratios have a higher chance of getting approved.
- Credit score—in conjunction with getting approved for a loan, your DTI ratio could also affect your credit profile and, therefore, your chances of accessing other financial opportunities. While not all lenders use your credit score to determine your ability to repay loans, many see that a higher score is better.
- Financial planning—knowing how much debt you have in proportion to your income can help you make smarter financial decisions. If you see you’re close to reaching or over the ideal percentage, you can create a plan to lower your debt to maintain financial stability.
How you can lower your debt-to-income ratio in Canada
Decreasing your DTI ratio can take time, depending on your situation, but the first step is setting a target and following a plan to get you to that point. You can lower your DTI ratio by consolidating debts with a lower interest rate or increasing your income to contribute to repaying more of your debts.
How To Get A Loan With A High Debt-to-income Ratio in Canada
A healthy debt-to-income ratio in Canada is necessary when getting approved for a loan from traditional financial institutions. In situations where you need the funding but don’t have the right qualifications, alternative lenders like Alpine Credits have a solution.
Alpine Credits offers accessible and substantial home equity loans and has been helping Canadians for over 50 years. You don’t need to demonstrate a good credit score or a low debt-to-income ratio. You’re eligible for a loan as long as you own at least 25% of your home.
Frequently asked questions
What is the average debt-to-income ratio in Canada?
As of 2021, the average debt-to-income ratio in Canada is 180%, which means that for every dollar a Canadian has, they owe approximately $1.80. Mortgages are the main contributors to such high levels of debt, as they are valuable assets but have also been impacted by high interest rates.
What is a healthy debt-to-income ratio?
The lower your DTI ratio, the healthier your finances. An overall ratio under 40% will be enough to get a loan, but healthy ratios are 30% or under because that means that you have more flexibility to save on your income.
Does the debt-to-income ratio include credit cards?
Debt-to-income ratios in Canada are calculated using either the TDS or the GDS. GDS ratios do not include other financial obligations outside housing expenses, whereas TDS ratios include credit card debt and other financial responsibilities.
What is the acceptable debt-to-income ratio for a mortgage?
To get approved for a mortgage from traditional financial institutions, your GDS should be less than 39%, and your TDS should be less than 44%. You have to qualify in both service ratios to get a mortgage. If you need to lower one or both, consider increasing your income or reducing your expenses.