Back-End Ratio

What is the Back-End Ratio?

Back-End Ratio, also known as the debt-to-Income ratio, is the one that signifies the part of a monthly income that should be going into paying debts.

The total monthly debt covers several expenses such as credit card payments, loan repayments, mortgage, child support, and more.

Back-End Ratio Formula

This can be calculated with the back-end ratio formula:

Back-end ratio = (total monthly debt expenditure / total monthly income) x 100

Understanding Back-End Ratio

The back-end ratio signifies one of a few metrics that mortgage underwriters use to evaluate the risk level linked with lending money to a borrower. It is essential to assess this metric as it denotes how much monthly income the borrower gets and how many commitments he already has.

In case the potential borrower is already paying a high percentage of monthly income to other expenses, he comes under the high-risk borrowers' list.

How to Calculate Back-End Ratio?

The back-end ratio can be calculated by combining the monthly debt payments of a borrower and dividing the result by the monthly income.

Now, suppose that there is a person who wants to take more loan. His monthly income is Rs. 50,000 and he already has a debt payment of Rs. 20,000. This borrower’s back-end ratio will be 0.4% (Rs. 20,000/ Rs. 50,000).

Generally, lenders trust such borrowers who don’t have a back-end ratio of more than 36%. However, there are some lenders who may even make an exception, given that the borrower has Good Credit.

Improving a Back-End Ratio

One of the major ways of decreasing the back-end ratio is by paying off the pending bills and loans as quickly as possible. In case you have a mortgage loan, you can refinance the same if the home carries adequate equity.

And then, combining other debts with this Cash-Out Refinance can help decrease the back-end ratio as well. However, if you choose this option, you may have to bear high-interest rates as lenders are always at great risk when providing cash-out refinance in comparison to a standard rate-term refinance.

Additionally, lenders may also require you to pay off other debts in cash-out refinance to close the previous loans and debts.