Recurring Debt

Recurring debt is any payment used to service debt obligations that occur on a continuing basis. Recurring debt involves payments that cannot be easily canceled at the payer's request, including alimony, child support and loan payments.

Certain bills, such as subscriptions, do not count as recurring debts because these payments can be terminated. Credit card balances are not counted as part of a consumer's monthly debt if the balance is paid in full every month. Lenders consider spousal support (alimony) and child support as long-term debt obligations when calculating eligibility for a home loan. Lower monthly debt levels will generally improve an individual's credit score, allowing him or her to obtain lower interest rates on lines of credit.

An individual's recurring debt is a strong factor when applying for a mortgage. Used in the debt-to-income ratio, lenders compare a borrower's income to the current amount of his or her debt service payments. The concept behind this practice is to determine whether enough income remains, after accounting for recurring debts, for the borrower to comfortably pay monthly mortgage payments. Debt-to-income ratio is calculated by first adding up all monthly debt obligations, or recurring debt, such as car loans, student loans, minimum monthly payments on any credit card debt, and any other loan payments. Then the total is divided by pretax or gross income, and it is expressed as a percentage.

Lenders tend to look at two different debt-to-income ratios, front-end ratio and back-end. The front-end ratio, also known as a household ratio, is the total amount of home-related expenses — the proposed monthly mortgage, property tax, insurance and homeowners association fees — divided by monthly gross income. Lenders generally prefer this ratio to be 28% or lower. The back-end ratio includes all debts paid each month, i.e., credit cards, student loans, personal loans and car loans, along with the proposed household expenses. Back-end ratios are usually slightly higher, typically 36% or lower, since they take into account all monthly debt obligations.