Too Much Debt? Identify and Learn the Signs of Too Much Debt

Almost everyone has some type of debt, and not all debt is bad debt. Your debt may be completely manageable—or it could be a time bomb waiting to go off. Here’s how to know if you’re in a situation where it might be smart to start investigating debt consolidation loans, debt reduction programs, and other types of debt relief.

How to Identify if You Have Too Much Debt

One way to measure your debt is to calculate your debt-to-income ratio, or DTI. It’s a number that tells you how much of your income goes to debt and housing each month.

Calculating DTI isn't hard. First, add up all of your income. Consider all sources, including:

• Your salary from full-time or part-time work (use the before-tax number)

• Money you earn freelancing 

• Pensions

• Bonuses or commissions

• Tips

• Child support or spousal support you receive

• Social security or disability income

• Rental income

• Retirement account minimum distributions

• Investment income

Then add up all of your minimum debt payments. You do include your housing expense, but you don’t include utilities, groceries, or other expenses that aren’t debts. Here’s what you should include in the total:

• Credit card minimum payments

• Personal loan payment

• Car or motorcycle loan payment

• Student loan payment

• Home equity loan or HELOC payment

• Minimum payments for any loans you cosigned

• Rent or mortgage payment. The mortgage payment total should include the principal and interest loan payment, plus homeowners insurance, property taxes, and monthly HOA dues.

• Time share payment

• Child support payment

• Spousal support payment

• Court-ordered payments for a debt not listed here

Total up your debts and divide that number by your total income. Then multiply the result by 100 and that’s your DTI. Here’s an example.

Generally speaking, lenders won’t bat an eye when your DTI is under 36%. What if it’s higher? Many mortgage lenders can approve applications for borrowers with a DTI of 50-55%. But with a DTI that high you might be turned down for other kinds of loans. A lower DTI could help you qualify for a loan when you need it. 

Why do they have these cutoffs? Because it shows how strained your budget is. Having less money leftover after you pay your required bills means it’s harder to save, and harder to bounce back from unexpected financial emergencies. The less wiggle room you have in your budget, the more it looks like you might not be able to afford your

6 Signs of Too Much Debt

1. All your money goes toward your debt

If you don’t have any disposable income left at the end of the month after paying toward your debts, you are in a very vulnerable financial position. One small unexpected event—a medical expense, car trouble, job loss, etc.—could force you to rely even more on your credit cards and dig you deeper into debt than you can get out of on your own.

2. You are struggling to afford to even make minimum payments.

Paying the minimum each month can give you a false sense of security. Yes, your credit score is reflecting the fact you are keeping up with payments, but you’re not making much headway in debt reduction. The longer you are in debt, the harder it could be to get out of it.

3. You can’t get new credit

To decide if they’ll extend you credit, a company will usually look at your credit report to calculate your debt-to-income ratio (This equals all your monthly debt payments divided by your gross monthly income). If they think you have too much debt for your income, they may assume you are not capable of paying them back, and won’t approve you. All you can do to improve your situation is to reduce the amount of your debt and/or increase your income.

4. Your savings account is empty (or nearly empty)

To have healthy finances, it’s recommended that you have at least half your yearly income in a savings account, easily accessible should you need it for an unexpected expense. If you don’t have this much, make an effort to save more. If you can’t save more or are pulling from your savings to pay off debt, consider it a sign that you are not on solid financial footing. When an emergency happens, you don’t want to be forced to use high interest credit cards to pay for it.

5. You’re shuffling your credit cards

It can be smart to take advantage of balance transfer offers to move your high interest credit card debt to a lower (or even 0%) credit card. It may help with debt reduction, since you save on interest in the short term, but your debt still exists. And a low promotional rate doesn’t last forever—it goes up after a certain amount of time, and could go as high or higher than the interest rate you had. Then you’re right back where you started. If this is your method of staying one step ahead of your debts, it is not a long term solution.

6. You’re getting debt sick

Are your debts on your mind often during the day, distracting you from being able to focus on work or family? Are they causing you to either lose your appetite or overeat? How are you sleeping lately? When the phone rings, do you dread answering it because it could be a creditor or debt collector? This is no way to live. You deserve happiness, and if your life is being disrupted daily by your debt, it is definitely a sign you should explore finding debt help.

Other financial ratios to measure debt

DTI isn’t the only way to measure how you’re doing. You can give yourself a financial checkup using other ratios, too.

The debt-to-asset ratio compares your debt to your assets (things like your home, car, and savings). The result is the percentage of your assets that your creditors still own. For instance, if you own a $500,000 home and you still owe $100,000 on your mortgage, your DTA for that asset is 20%. You can calculate DTA for each item or overall. 

After you calculate your debt, total up the value of your assets. You can use a real estate website to get a ballpark value for your home if you own one. Use a car value website to get the market value for your car. Stocks and other investments are worth their face value. Retirement accounts should be valued at 60% of their face value if you’re not yet 55 1/2 years old. If you’re including collectibles like jewelry, antique cars, or a stamp collection, consider using figures lower than the full market value. Collectibles can take time to sell. In a situation where you have to liquidate quickly, you might not get the full market value for those items.

Once you have a total number, divide your debts by your assets. You want the result to keep getting lower as you near retirement.

Another useful ratio is credit utilization. This is how much you owe on your credit cards compared to your credit limits. The lower the better. Utilization is calculated overall (meaning it includes all your credit cards) but you still don’t want any one card to have a high utlization. That could lower your credit score and make it harder for you to qualify for new credit when you need it.

Using ratios can help you understand your finances and give you a heads up if your debt is becoming outsized, compared to your income. Also, debt is expensive. The more you have, the harder it could be to knock it down. Understand these numbers so that you can feel comfortable and confident about your debt as you work toward a better financial future.

Dealing with too much debt: Your next step

The good news is that there are many types of debt help available—debt consolidation loans and debt negotiation programs like the one Freedom Debt Relief offers are just a couple examples. Only you can decide the right solution for your debt reduction, but the key is to explore your options as soon as you know your debt is a problem.

A good place to start is this debt solutions overview. It offers pros and cons for the most common debt solutions and lets you learn more about each one.