Debt ratios - the basics

Debt ratios are fundamental to mortgage approval.  The purpose of the ratio is to assess whether you, the borrow, can service your existing debt plus the new debt that you are applying for.  The typical mortgage lender expects the applicant to have some sort of income to pay for the debt...how else is the lender going to get their payments?
 There are other niche mortgage products out there that don't put as much stress on income, but they are structured in a way that gives the lender some assurance that they will get their payments (another blog for another day).

There are two debt ratios lenders look at. GDS (gross debt service) is the percentage of gross annual income required to cover payment associated with housing.  TDS (Total debt service) is similar, but includes all other debts, such as credit cards, lines of credit, car loans .  Expenses related to property is typical expressed as PITH (principle and interest (ie. your mortgage), property taxes, heat).  Condo fees are also included, where applicable.

GDS = { PITH + 50% condo fees }  /  {gross income}

TDS = { PITH + 50% condo fees + other debts }  /  {gross income}
     
The GDS and TDS ratio requirements vary depending on your credit score, your downpayment amount (for example high ratio mortgage >80% Loan to Value (LTV)), mortgage insurers' policies, and/or lender's policies and programs.   At the current moment, it is common to see GDS and TDS requirements such as 32%/40%, 35%/42% or no GDS/44%.  Note rules may change,  the ratios may get tighter especially if the government decides to tweak them in an attempt to control consumer debt. 


Depending on your existing debts, income and rental portfolio (especially if not positive cashflowing), you may fall beyond that ratio range.  Sometimes a refinance remedies the problem, moving your high interest unsecured debt to low interest mortgage. Sometimes exploring a lender that is more flexible with how they count rental income could be the remedy.  But other times, you simply have hit a wall with the 'A' lenders and you graduate to the 'B' lenders which have higher allowances for the ratios or disregard the ratios altogether.  The latter is the case frequently for self-declared income.

How rental income is calculated is discussed in a separate blog, and builds on top of the GDS and TDS concept.  As you can see, the ratios depend significantly on your gross income, so now you can understand why a mortgage broker says 'Don't quit your job'. 

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