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Louise McIntyre's monthly gross income is $2,000. Her employer withholds $400 in federal, state, and local income taxes and $160 in Social Security taxes per month. Louise contributes $80 each month for her IRA. Her monthly credit payments for Visa and MasterCard are $35 and $30, respectively. Her monthly payment on an automobile loan is $285. What is Louise's debt payments-to-income ratio? Is Louise living within her means?

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Answer:

  • Louise's debt payments to income ratio = 25.73%
  • She is not living within her means because her debt payments to income ratio exceeds 20% of net income

Explanation:

First we must determine Louise's net income:

net income = gross income - taxes - IRA contributions

net income = $2,000 - ($400 + $160) - $80 = $2,000 - $560 - $80 = $1,360

Now we must calculate her total debt payments:

debt payments = credit card payments + auto loan

debt payments = $35 + $30 + $285 =  $350

Louise's debt payments to income ratio = debt payments / net income

= $350 / $1,360 = 0.2573 = 25.73%

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