How much debt is too much?

Assessing your debt levels

If you’re worried about carrying too much debt and putting yourself at financial risk, it’s a good idea to calculate your debt-to-income ratio (DTI). Simply divide your total monthly debt payments by your gross monthly income.

In general, a DTI ratio below 36% means your debt load is manageable. But if your DTI ratio exceeds 43% of your gross monthly income, you may have too much debt.

With a higher DTI, you may struggle to save money and keep up with debt payments. You may also find yourself maxing out your credit cards and using products like payday loans to bridge the gap until the next payday.

» MORE: Should I pay off debt or save?

Debt-to-income ratio example

Let’s say you have a gross income of $8,000 per month. Your monthly debt payments (including your mortgage) are $2,500. That means your debt-to-income ratio is around 31%. This means that 31% of your monthly gross income is going toward debt payments.

» EXPLORE: Debt management plans

Consequences of high debt

Ultimately, having too much debt can cause a downward spiral financially — with increasing debt loads and high interest rates making it near impossible to start paying down your debt balances. If your debt becomes unmanageable, bankruptcy may be your only option to start over. This ruins your credit and you won’t be able to borrow for a long time.

A poor credit score and bankruptcy on your credit history means no car loans (or bad loans with high rates) and no mortgage. It might even make it difficult to rent an apartment.

Strategies for managing and reducing debt

So, you have a high debt load? That doesn’t mean you can’t get out of it. Here are a few ways to handle your debts and lower your financial stress:

• Budgeting: Writing down your income and expenses helps you see what’s possible with your monthly income. You might discover that sticking to strict budgeting for a few months helps you save money and start paying down your debts faster. The key is to create a realistic budget you can actually stick to — not an extremely restrictive one.
• Debt snowball or avalanche: Both the debt snowball and avalanche methods help you pay off debt faster by focusing on one debt at a time. The snowball method focuses on the debt with the lowest balance, while the avalanche focuses on the debt with the highest interest rate. Both methods are proven and can help stop the overwhelm with managing multiple debts.
• Debt consolidation: Debt consolidation allows you to combine multiple debts into a single payment. This can be done with a personal loan, home equity loan or credit card balance transfer (for credit card debt). It can lower interest rates, reduce monthly payments and make debt repayment more manageable.
• Debt relief: Debt relief companies help you negotiate with your creditors and create a payment plan that you can afford. Debt relief companies negotiate with creditors and consolidate your payments into a single monthly installment. This can come with high fees, but it may be worth looking into if you’re constantly missing your payments.

Whichever debt strategy you choose, it’s also important not to neglect saving and investing. Don’t neglect investing in things like your 401(k) — especially if there’s a company match. You should also have an emergency fund to handle unexpected expenses.

» MORE: Good debt vs. bad debt

Long-term financial planning

Setting goals not only gives you a target to aim for. It helps you say “no” to financial temptation at the same time. When you have strong goals in place that you care a lot about, it’s easy to avoid wasting money now in favor of bigger and better things in the future.

• Investing is how you secure your financial future. You should make sure to set something aside in retirement accounts, even while you’re paying down debts. Compound interest takes a long time to grow — the sooner you get started, the better.
• Maintaining a good credit score keeps borrowing costs low. Keeping up on your debt payments and being mindful of your credit can pay dividends in the future. A good credit score helps you get better rates and lower payments when consolidating your debts.
• Avoiding future debts is a great way to ensure financial success. A few examples include buying a used car with cash instead of financing a new one, paying with your debit card when shopping or eating out, saving for large future expenses ahead of time and avoiding impulse purchases.