Calculating Your Tenant’s Rent-to-income Ratio
When someone applies for your rental, one of the first things you’ll need to understand is if the renter can afford to pay the rent on time every month. You can run a credit check, contact references and even review the candidate’s criminal history.
But in order to be sure the prospective tenant can afford your rent, there’s a simple formula you can use to help understand their finances. Take a look at how calculating your tenant’s rent-to-income ratio can help you understand their financial well-being.
Why the Rent-to-income Ratio Is Important
Every month, your tenant’s paycheck likely goes toward many different bills and obligations. By getting a perspective on how much of their monthly income is left over, you’ll get a pretty good idea of their ability to pay.
This key piece of information is often used to determine whether or not a closer look at their financial history is justified. When landlords are recruiting great tenants, the rent-to-income ratio plays a very important role.
How to Calculate the Rent-to-income Ratio
Typically, your tenant should have 30 percent of their monthly income available for paying rent. Here are a few ways to look at rent-to-income ratios:
Use a fixed percentage to gauge financial health. Let’s start with a scenario: suppose your space is renting for $3,000 per month. The applicant has stated that they’re making $8,950 per month.
Here’s how to calculate the rent-to-income ratio:
Take your tenant’s gross monthly income and multiply it by 0.3.
$8,950 x 0.3 = $2,685
Since your rental’s listed at $3,000 per month, the tenant may not be able to meet their obligation. Unless the number you’ve factored is equal to or greater than $3,000 you may want to consider other, more financially well-qualified applications first because the maximum rent they can afford is $2,685 per month.
Multiply the total monthly rent by three. If the result is less than the candidate’s total monthly income, you may have a good prospect. Here’s an example.
Suppose that your rent is $2,800 per month and the prospective tenant’s making $8,950 per month.
$2,800 x 3 = $8,400
In the above case, the tenant passes the test and you may want move forward with a credit check or the next phase in your tenant vetting process.
Use the tenant’s annual gross income to see if they qualify. Here’s how to make that calculation:
Suppose the renter’s annual income is $86,000. And the rent amount is $3,000 per month.
Divide the gross annual income by 12 to get their monthly income figure:
$86,000 ÷ 12 = $7,166.68 is their monthly income.
Now multiply your rent by 3 to see if that total is less than the tenant’s total monthly income:
$3,000 x 3 = $9,000 per month. That’s the minimum amount per month your tenant will need to make in order to qualify.
Use TransUnion’s SmartMove Tenant Background Check
Once you have an understanding of your tenant’s general finances, it’s time to dig deeper. If their income is sufficient to afford your rent, you’ll want to look into their payment history. You can independently run a credit check, personal background check and inquire into past tenancies. But there is an easier way.
Because getting your applicant’s financial profile right is so important, we’ve partnered with TransUnion’s SmartMove. It helps take the guesswork out of tenant screening. And there are many reasons why their tenant background checks work so well:
It builds a reliability index based on the tenant’s credit report. After complete analysis of the tenant’s financial data, SmartMove will deliver a custom leasing recommendation for landlords and property managers. Translating the statistics and payment history into an easy-to-read report, they’ll give you their findings in a ResidentScore.
Renter-specific data is factored in. With details on former evictions, rent payment trends and skipping out on a lease, you’ll have critical information in hand to make a decision.
The inquiry won’t ding the tenant’s credit rating. SmartMove’s credit check is initiated by the tenant. Called a “soft inquiry,” it has no impact on their overall credit score.
Many tenants are seeking applications that don’t threaten their hard-earned credit score. Using SmartMove can actually attract the kind of tenants you’re seeking.
Your tenant’s debt-to-income ratio is analyzed. You need to know where your tenant’s money is going every month. Major payments to credit cards, vehicle and student loans are factored when building the final ResidentScore.
Coverage for Your Real Estate Investments
While you’re taking measures to ensure your renters are financially able to meet the demands of your rental price, check in with your American Family Insurance agent. You may find opportunities to bundle and save on your premiums. Other discounts may be available as well. With the right coverage for your real estate investments, you can focus on growing your business.