28/36 Rule

What Is the 28/36 Rule?

The term 28/36 rule refers to a common-sense rule used to calculate the amount of debt an individual or household should assume. According to this rule, a household should spend a maximum of 28% of its gross monthly income on total housing expenses and no more than 36% on total debt service, including housing and other debt such as car loans and credit cards. Lenders often use this rule to assess whether to extend credit to borrowers.

Understanding the 28/36 Rule

Lenders use different criteria to determine whether to approve credit applications. One of the main considerations is an individual's credit score. They usually require that a credit score falls within a certain range before considering credit approval. However, a credit score is not the only consideration. Lenders also consider a borrower’s income and debt-to-income (DTI) ratio.

Another factor is the 28/36, which is an important calculation that determines a consumer's financial status. It helps determine how much debt a consumer can safely assume based on their income, other debts, and financial needs — the premise being that debt loads in excess of the 28/36 parameters are likely difficult for an individual or household to sustain and may eventually lead to default. This rule is a guide lenders use to structure underwriting requirements. Some lenders may vary these parameters based on a borrower’s credit score, potentially allowing high credit score borrowers to have slightly higher DTI ratios.

Most traditional lenders require a maximum household expense-to-income ratio of 28% and a maximum total debt to income ratio of 36% for loan approval.

Lenders that use the 28/36 rule in their credit assessment may include questions about housing expenses and comprehensive debt accounts in their credit application. Each lender establishes their own parameters for housing debt and total debt as a part of their underwriting program. This means that household expense payments, primarily rent or mortgage payments, can be no more than 28% of the monthly or annual income. Similarly, total debt payments cannot exceed 36% of income.

Special Considerations

Since the 28/36 rule is a standard that most lenders use before advancing any credit, consumers should be aware of the rule before they apply for any type of credit. That's because lenders pull credit checks for every application they receive. These hard inquiries show up on a consumer's credit report. Having multiple inquiries over a short period of time can affect a consumer's credit score and may hinder their chance of getting credit in the future.

Example of the 28/36 Rule

Here's a hypothetical example to show how the 28/36 rule actually works. Let's say an individual or family brings home a monthly income of $5,000. If they want to adhere to the 28/36 rule, they could budget $1,000 for a monthly mortgage payment and housing expenses. This would leave an additional $800 for making other types of loan repayments.