The debt to income ratio for a borrower is the percentage of monthly debt obligation in relation to his monthly income. The lower the debt to income ratio, the better a borrower's chance at gaining additional debt or loans.
Significance
The debt to income ratio is used by lenders to determine a borrower's management of debt and his ability to repay additional debt. Most lenders like to see a debt to income ratio of less than 40 percent after a new debt is added to the ratio.
Function
A line of credit allows a borrower to borrower funds as needed, and pay down the debt on a revolving basis. The existence of a line of credit itself does not affect the debt to income ratio, however, the minimum monthly payment is added to the debt side of the ratio.
Considerations
If the line of credit is not used by the borrower, it will not have a monthly payment and will not affect the borrower's debt to income ratio. However, if the line of credit is extended to its limit, the payment will have a great impact on raising the borrower's debt to income ratio.
Misconceptions
Lenders do not look at just a borrower's debt to income when considering his ability to repay, especially if there is a line of credit in his name. The lender will look to see if there is a large risk of the borrower extending his line of credit to its limit and then becoming unable to pay.
Prevention/Solution
To keep the line of credit at a minimal effect on the borrower's credit score and debt to income ratio, he should keep his balance at less than 30 percent of the limit.
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