lower financial ratios

How to Lower Your Financial Ratios Before Applying for a Loan

Financial ratios provide an exact view of your money situation, which helps lenders determine if you can repay a loan on time and as agreed. A financial ratio with too much debt-related risk might alert lenders, leading them to either raise the interest rates or not approve your application.

Lessening these ratios is important if you want better loan conditions. In the following article, we have compiled a few tactics that can help you manage and comprehend financial ratios effectively.


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Calculating Your Debt-to-Income Ratio

The debt-to-income ratio is a critical indicator for lenders when assessing your financial standing. This metric measures what proportion of your monthly earnings goes toward paying off debts. Talk with professionals to help you understand these nuances and better handle your financial situation.

You can easily calculate debt to income ratio to assess your financial standing. Combine all monthly debt payments owed for mortgage, car loan payments, and credit card bills before dividing this sum by your gross monthly income before taxes and deductions. Then, divide by 100, and you have created your own DTI percentage score.

For example, if your monthly debt payments total $1,500 and gross monthly income totals $5,000, your DTI ratio would be 30%. Most lenders prefer DTI ratios under 36%, optimally 20%, but any ratio above this range indicates you should strive to decrease it before seeking further loans.

Reducing Your Monthly Debt Payments

The initial and most effective step to decreasing your DTI ratio is lessening monthly debt payments. Begin by examining all your debts and looking for possibilities to combine or refinance them at lower interest rates. The consolidation process could make repaying your debt easier and usually leads to lower monthly payments. Refinancing, particularly with a lower interest rate, can also reduce your monthly obligations.

Furthermore, you could also contemplate paying more than the minimum amount for your highest-interest debts. This strategy not only lowers your overall debt but also decreases the amount of interest you pay overtime. Be disciplined and avoid new debt during this period to ensure your efforts are not counteracted.

Increasing Your Income

Increasing your income sounds obvious, but it takes a lot of work to achieve in reality because of our busy schedules. However, it’s not impossible. A higher income can reduce your DTI ratio because debt repayment draws less money from your income. In order to increase your income, consider getting a second job, freelancing, or investing wisely so that you can have passive income every month. In Canada, for instance, one million people worked two jobs simultaneously in 2022. 

If your current job offers extra working hours, promotions, or salary increases, it’s a good idea to consider these options. Additionally, you can invest money into schooling or training to upgrade your skills, leading you to a better, higher-paying job. You can also get extra income by renting a room in your house. Every additional dollar earned helps improve your financial ratios and strengthens your loan application.

Cutting Unnecessary Expenses

Another suitable method to decrease your financial ratios is to reduce the amount of money you spend every month. Take a deep look at how you usually spend your money and find places where you could save. Start with unnecessary things like takeout, amusement, or subscriptions. Think about living a simpler life to save money and quickly lessen your debt.

Statistics show that only 49% of Canadians have set a budget. However, people don’t realize that making a budget helps you know where your money goes and that you’re prioritizing paying off debts. Dedicate part of the savings from reduced expenses to directly clear debts. This method can decrease your financial ratios considerably as time passes by.

Building an Emergency Fund

As you work to bring down your debt and cut back on expenses, it’s essential that you start building an emergency fund, too. This can prevent you from taking on any future debts, especially when there are sudden expenses like medical problems or fixing a car. Set yourself a goal to save at least 3 to 6 months of living expenses in a separate account, which is not hard to reach.

A fund for emergencies brings calmness and financial steadiness, making you more appealing to lenders. It shows that you can handle money well and lessens the chance of not repaying your loan because of unexpected situations.

Monitoring Your Credit Score

Your credit score is a significant element that lenders look at when they assess your loan request. A better credit score enhances the probability of getting your loan approved and might also help you secure lower interest rates. To hold on to or boost your credit score, it’s important to regularly keep an eye on it and make efforts towards handling any problems present in the report.

Begin by acquiring and analyzing your credit report from crucial credit bureaus. If you see any incorrect details, resolve them without delay to confirm that your credit report shows your genuine financial status. Also, always pay all debts on time because the history of payments is significant for credit score.

Additionally, keeping your credit utilization ratio low, which is the amount of available credit that you use, is very important. Try to maintain this ratio under 30%. To do so, pay off large balances and avoid accumulating new credit card debts. Keep track of your credit score and work on making it better. This will help you when you apply for a loan.

Bottom Line About Lower Financial Ratios

Reducing your financial ratio before applying for a loan is critical in securing favorable terms and demonstrating financial responsibility to lenders. By taking up the proactive measures mentioned throughout this article, you’ll improve your ratios, strengthen your creditworthiness, and boost your chances of loan approval on favorable terms.

This is a paid guest post.

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Igor Zagradanin

Igor Zagradanin is a content marketing expert with a proven track record of helping businesses by adding value to their brands, developing content marketing strategies, as well as educating and connecting with their audiences on a personal level.

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