Which ratio is typically used to measure a borrower’s debt capacity?

The Debt-to-Income Ratio is commonly utilized to assess a borrower’s ability to manage monthly payments and repay debts. This ratio is calculated by dividing a person's total monthly debt payments by their gross monthly income.

Lenders use this ratio to evaluate how much of a borrower's income is already committed to existing debt obligations, helping them determine if the borrower can handle additional debt, such as a mortgage payment. A lower Debt-to-Income Ratio typically indicates that a borrower has a greater capacity to take on more debt without experiencing financial strain, making it a critical metric in mortgage lending.

The other ratios mentioned serve different purposes. The Loan to Cost Ratio focuses on the relationship between the loan amount and the total cost of the property, while the Combined Loan to Value Ratio pertains to the overall ratio of total loan amounts against the appraised value of the property. The Operating Ratio is primarily used in business finance to evaluate the efficiency of a company in generating profit relative to its operating expenses, rather than directly assessing an individual borrower’s capacity for taking on debt. Thus, the Debt-to-Income Ratio is the most relevant measure for evaluating a borrower’s debt capacity in the context of mortgage lending.