How Much Debt Is Okay?

Advice from Stretch Your Dollar coach Mary Hunt

Q: Is it ever OK to have debt? How much debt can I afford?

A: Sure it is. Not many of us would be homeowners or purchase a car without a mortgage or loan of some kind. These days it's difficult to finish a college education without incurring some amount of student debt. But there needs to be self-imposed limits.

Mortgage debt: Your monthly mortgage payment--including principal, interest, real estate taxes and homeowners insurance--should not be more than 28 percent of your gross monthly income (before taxes). This is your housing expense ratio.

Your total monthly debt obligation should not be more than 36 percent of your gross income. Total debt includes the mortgage payment plus other obligations such as car loans, child support and alimony, credit-card bills, student loans, condominium association fees. (Note: Certain lenders may be more lenient.) This is your debt-to-income ratio.

Student debt: A good rule to follow is that your total student debt should not exceed the first year's income in your chosen field of study. There's a great calculator, the Debt Wizard, at MappingYourFuture.biz, that will help you determine just how much you can afford to borrow for college.

Auto debt: Your loan should be for no more than 36 months. With this kind of aggressive pay-back structure you can be pretty sure your car won't go upside-down where it's suddenly worth less than your outstanding debt. And you won't get caught in the trap where you are still making payments and big repair bills at the same time. Stick to this rule and you'll have time to save up for the next car.

Credit-card debt: It is never okay to have credit-card debt. It's just too expensive. If you are charging more than you can reasonably repay in that same month, you are overspending. It is going to come back to bite you.

Excerpted from Can I Pay My Credit Card Bill with a Credit Card? And Other Financial Questions We're Too Embarrassed to Ask! (DPL Press, Inc., 2009)

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