Debt ratios are a useful way to assess whether the applicant is over-indebted. The ratios are based on the value of monthly payments to monthly income and total indebtedness compared to annual income. The decision engine also returns information about the ratio of balances to limits on revolving credit agreements, including overdrafts and credit cards.
This article explains the three debt ratios and then shows how they are derived using the data returned by TransUnion.
Debt ratios are displayed in the indebtedness tab.
The monthly debt ratio
The monthly debt ratio relates to the ratio of monthly payments on accounts to monthly income. In other words how much of an applicant's income is being used to pay creditors each month? All data in the decision engine is monthly. But note below that credit cards are not included in this calculation.
For example:
Alice earns £1,500 each month. They spend £500 on repaying loans and other credit agreements. This is a ratio of 33% (£500 / £1,500).
Bob also earns £1,500 each month. But they only spend £200 on repaying loans and other credit agreements. This is a ratio of 13% (£200 / £1,500).
The annual debt ratio
The annual debt ratio relates to the ratio of total credit to annual income.
Credit means all the credit accounts an applicant has, including credit cards, mobile phones and loans. It does not include any first mortgage. It does not include gas or electricity.
For example:
Alice has £20k in loans and has an annual income of £24k this is a ratio of 83% (£20k / £24k)
Bob has £10k in loans and has an annual income of £30k this is a ratio of 30% (£10k / £30k)
The second ratio displayed is an annual debt ratio. It relates to the ratio of total debts on all accounts (active, defaults and missed payments) to annual income.
The revolving debt ratio
The revolving debt ratio relates to the amount of credit an applicant is using compared to the limits provided by a lender. This applies to what are sometimes called revolving credit agreements; credit cards and overdrafts.
For example:
Alice has a credit card balance of £9,000. They have two cards with total limits of £10,000. This is a ratio of 90% (£9,000 / £10,000).
Bob has credit cards balances of £1,000. They also have two cards with total limits of £10,000. This is a ratio of 10% (£1,000 / £10,000).
Calculations in the decision engine
Income is derived from the amount declared by the applicant. This is displayed in the applicant tab.
Total balances are the sum of the balances from all of the tables: active & paid, missed payments and defaults.
Total payments are the sum of the balances which are only derived from the active accounts table. When an borrower misses a payment or defaults on an agreement there is no longer an active repayment amount because the account is in arrears.
First mortgage accounts (MG) are ignored. This is because the mortgage is considered to be expenditure similar to rent. 2nd mortgages (MT) are included.
Example 1 (active accounts only)
In the example below the applicant only has active accounts. There are no other tables for missed or defaulted payments because the borrower is up to date.
Credit card (CC) and current account (CA) contribute to the total of balances, but there are no set regular repayments because these change from month to month. Liability to pay something will add to the ratio.
In this example the total balances are £18,897 and the total monthly payments are £403 (credit card and current accounts, excluded).
The applicant declared a monthly income of £2,500. This is £30,000 per year.
For the monthly debt ratio the calculation is £403 divided by £2,500 = 16%.
For the annual debt ratio the calculation is £18,997 divided by £30,000 = 63%.
Example 2 (ratios derived from active accounts only)
In the example below there are no missed payments or defaults. Therefore the balances and payments used to calculate the debt ratio are only drawn from the table below.
There are two paid accounts with zero balances. The last regular payment is provided but is not included in the calculation for the total of the active payments.
In this example the applicant declared their monthly income was £1,370.
To work out the monthly debt ratio the total monthly payments of £300 are divided by the monthly income (£300 / £1,370). This gives a ratio of 22% (rounded up).
To calculate annual debt ratio the total balances are divided by the annual income (monthly income is multiplied by 12). In the example below that is £5,091 divided by £16,440: 31%.
Example 3: Ratios derived from all tables
In this example there are balances in all three tables; defaults, missed payments and active accounts.
The defaults table shows total balances of £558 which is the sum of all of the unsatisfied defaults:
The applicant also has accounts appearing on the missed payments table totalling £660.
The applicant has 6 accounts which are active. The total balance of these active accounts is £1,979.
To calculate the monthly debt ratio (monthly payments divided by monthly income) only active payments are included.
In the example above the total payments are £290 for active accounts. This is divided by the monthly income of £716 = 41%.
To calculate the second annual debt ratio (total balances payments divided by annual income) the balances from each table are taken into account (£558 + £660 + £1,979 = £3,197). This is then divided by the annual income which is 12 times the monthly income of £716.
The calculation is £3,197 divided by £8,592 which provides a debt ratio of 37%.
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