Debt Service Ratios for a Mortgage Explained

What Are Debt Service Ratios?

Your gross debt service (GDS) ratio is your housing costs divided by pre-tax income. Your total debt service (TDS) ratio includes payments on any other debts you may owe.

When determining how much you can afford when buying a home, lenders will look at two significant factors: your gross debt service (GDS) ratio and your total debt service (TDS) ratio. While these two ratios are simple calculations, understanding how they work could help you afford a home.

What is the gross debt service ratio?

Your gross debt service ratio is the amount you’re spending on housing relative to what your pre-tax income is. The expenses used for the calculation include:

Mortgage payments (principal and interest, and mortgage insurance costs).
Property taxes.
Heating costs.
50% of condo maintenance fees (if any).
Secondary financing payments (if applicable).
Ground rent (if applicable).

In general, lenders don’t want your GDS ratio to exceed 39% of your income.

What is the total debt service ratio?

Your total debt service ratio is your GDS ratio plus any other debt that you may have, including:

Auto loans.
Student debt.
Credit card payments.
Child support/alimony.

In most cases, lenders set a limit of 40-44% for your TDS ratio.

Nerdy Tip: It may be possible to exceed recommended TDS and GDS ratio limits if you’re purchasing a home with another person or people. This is possible since lenders look at the combined income and debts when determining mortgage affordability.

How to calculate your GDS and TDS ratios

Since you know how the gross debt service and total debt service ratios work, let’s see how they apply to a real-life scenario.

Let’s say John and Mary have a combined income of $120,000 a year before taxes ($10,000 a month). They’re looking to purchase a home and have estimated their monthly housing costs to be as follows:

$2,500 – Mortgage payments.
$250 – Property taxes.
$110 – Utilities.
$200 – 50% of monthly condo fees.

That’s a total of $3,060 that they’ll spend on housing costs each month. If they divide that number by their monthly pre-tax income of $10,000, it works out to 30.6%. That’s below the lender’s GDS ratio limit. That means the house they’re looking at is affordable.

Now, let’s see how their total debt service ratio affects things. Let’s assume that John and Mary also have the following monthly debt payments:

$450 – Student loans.
$350 – Car payments.
$250 – Credit card debt.

That’s an additional $1,050 in monthly expenses, which puts them at a total of $4,110. When you divide that by their monthly income, their TDS is 41.1%, exceeding the lender’s criteria of 40%. In other words, they can’t afford the home they’re looking at.

Estimate your own GDS and TDS ratios with this calculator:

Factors that affect your GDS and TDS

Even though your GDS and TDS ratios are simple calculations, there are a few things that could affect both ratios. These curveballs could affect your affordability and need to be factored in when buying a home.

The mortgage stress test

When people budget for a home, they will usually use the interest rate provided by their lender during the mortgage pre-approval process.

However, the federal government has a mortgage stress test that requires you to qualify at 2% above your lender’s mortgage rate or 5.25%, whichever is higher. What that means is your mortgage application is tested at a higher mortgage rate, so your monthly mortgage costs appear higher on paper. That increases your GDS and TDS ratios.

Mortgage loan insurance

Anyone who’s purchasing a home that costs less than $1 million with a down payment of less than 20% will require mortgage loan insurance for their high-ratio mortgage. This added insurance is meant to protect lenders if you default. Since there’s an added cost for this insurance, CMHC factors that in and allows you to have a GDS ratio of 35% and a TDS ratio of 42%. This gives house hunters who require mortgage loan insurance a little bit of flexibility.

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What to do if your GDS and TDS exceed the limits

It’s important to understand that the GDS and TDS ratios are typically guidelines and not hard rules. If you speak to your financial institution or mortgage broker, they may have a solution to help you.

Alternatively, you could try one of the following things:

Pay down debt. If you reduce your debt, your TDS ratio will decrease.
Save a bigger down payment. Saving more money for your down payment will reduce how much you need to borrow, reducing your GDS and TDS ratios.
Reduce your budget. Looking for homes with a cheaper purchase price will lower your GDS and TDS ratios.
Shop around. Some lenders use different criteria when determining how creditworthy you are.

Having low debt service ratios tells lenders that you can reasonably afford a home. While this number isn’t foolproof, it’s a good estimate for everyone involved. Stay under the recommended ratio limits, and you likely won’t have any issues paying your mortgage.

» MORE: Get to know the process of buying a house