If you’ve been researching the rental market in your area, you’ve probably come across rental listing advertisem*nts that require a prospective tenant to have a minimum amount of gross monthly income.But how do landlords come up with this monthly income figure? The odds are that they are using a rent to income ratio to help attract the most qualified tenants.
In this article, we’ll explain how to calculate the rent to income ratio and where to find suggested rent to income ratios across different markets.
What is the Rent to Income Ratio?
The rent to income (RTI) ratio is a calculation that compares the tenants’ gross monthly income to the price of the monthly rent and is expressed as a percentage. Gross income represents the combined monthly income, from all sources, from every adult on the lease, before any deductions such as payroll tax withholdings or retirement contributions.
For instance, if there are two roommates living in the home with one grossing $4,000 per month in income and the other $3,000 per month, the combined gross income used for the RTI ratio calculation would be $7,000.
Many landlords use the rent to income ratio to estimate whether the home is affordable for a prospective tenant, and the likelihood of the tenant paying the rent on time.
The premise is that if too large of a percentage of the monthly income is used to pay the rent, the tenant may not have enough money left over each month to pay normal cost of living expenses such as food, utilities, healthcare, and other obligations like credit card payments or student loans. If the tenant’s expenses are “tight” one month, there is a potential risk that the tenant may pay the rent late or not at all.
According to the tenant screening website TurboTenant, many landlords require a minimum rent to income ratio of 30%. However, as we’ll explain later in this article, rent to income ratios vary based on the local rental market.
Rent to Income Ratio Formula
The formula for calculating rent to income ratio is very straightforward:
- Rent to Income (RTI) Ratio = Monthly Rent Price / Monthly Gross Income
Using our two roommates from above as an example, if the monthly rent is $2,000 and the tenants’ combined gross monthly income is $7,000, the RTI ratio is 29% (rounded):
- $2,000 Monthly Rent Price / $7,000 Monthly Gross Income = .29 or 29%.
How Landlords Use The Rent to Income Ratio
As a landlord, there are two ways you can use the rent to income ratio when screening prospective tenants. In the following examples, we’ll assume you have determined that the minimum acceptable RTI ratio for the home you are renting is 35% and the rent price is $1,500 per month:
1. Predetermined Rent to Income Ratio
If you have decided that your minimum rent to income ratio is 35%, you can rearrange the RTI ratio formula to determine the maximum amount of rent a tenant could afford to pay.
Assuming that you have a prospective tenant earning a gross income of $50,000 per year or $4,167 per month:
- RTI Ratio = Monthly Rent Price / Monthly Gross Income
- Monthly Rent Price = Monthly Gross Income x RTI Ratio
- $4,167 Monthly Gross Income x 35% (0.35) = $1,458 Maximum Monthly Rent
That means if the price of the monthly rent for your home is $1,500, the tenant would not qualify because the tenant’s gross monthly income is only enough for a property that rents for $1,458 per month, based on an RTI ratio of 35%.
2. Rent to Income Ratio Multiplier
You can also use the rent to income ratio formula to determine how much gross monthly income a prospective tenant needs in order to qualify to rent your home:
- RTI Ratio = Monthly Rent Price / Monthly Gross Income
- Monthly Gross Income = Monthly Rent Price / RTI Ratio
- $1,500 Monthly Rent Price / 35% RTI Ratio = $4,285 Minimum Monthly Gross Income
In this example, if a tenant applicant has a gross monthly income of $4,285 the tenant would qualify to rent your home based on your RTI ratio requirements. That’s because their monthly gross income of $4,285 is greater than the minimum required monthly income of $4,167.
Benefits to Using the Rent to Income Ratio
Landlords who determine a minimum acceptable RTI ratio in advance can quickly prescreen tenant applicants, and even help prospective tenants to prescreen themselves.
Let’s assume your monthly rent price is $1,200 and your minimum rent to income ratio is 30%. That means the minimum gross monthly income required is $4,000:
- $1,200 Monthly Rent Price / 30% RTI Ratio = $4,000 Minimum Monthly Gross Income
Simply by looking at how much combined income the applicant earns, you can determine whether or not the applicant meets your RTI ratio requirements.
If the prospective tenant earns at least $4,000 per month, you could continue the tenant screening process. On the other hand, if the applicant does not earn enough monthly income, you could save your time and the tenant’s time by declining the applicant based on not having enough income each month.
When you advertise your rental listing online, you can also note in your advertisem*nt how much combined gross monthly income an applicant needs to earn to qualify for your home (based on your minimum RTI ratio).
However, be sure to require the same amount of income from each applicant and don’t discriminate based on the source of income. As a recent article from the American Bar Association notes, refusing to recognize a person’s lawful source of income is unlawful housing discrimination.
Where to Find Rent to Income Ratio Data
One of the drawbacks to arbitrarily choosing a rent to income ratio such as 30% or 35% is that it doesn’t take into account the median market rent and median market income for a specific area.
Factors such as cost of living, housing supply, and job market growth all have an effect on rents and incomes in a local market. Setting an RTI ratio that’s too high for your market can result in good tenants being turned down, while having a rent to income ratio that’s too low may result in renting to unqualified tenants.
You can calculate the median rent to income ratio for your market using the following formula:
- Market Rent to Income Ratio = Median Market Rent / Median Market Income
To solve for this equation, you need to know the median market income and the median market rent.
Two good resources for finding the median income for an area are Census Reporter and Data USA. Both websites provide the median household income for cities and metropolitan statistical areas.
Good data sources for finding the median market rent for your area are RentData.org, Zumper, and Zillow Research Data. Of the three options, only the Zillow Observed Rent Index (ZORI) provides rent data on a more granular level by zip code.
Example of Calculating the RTI Ratio
Here’s an example of how to calculate the market rent to income ratio for Louisville, Kentucky.
By visiting Census Reporter, we learn that the median annual household income for the Louisville metro area is $61,172 or $5,098 per month. According to Zumper, the median monthly rent for a 3-bedroom home in Louisville is $1,320.
With this information, we can calculate the market rent to income ratio for Louisville, Kentucky:
- Market Rent to Income Ratio = Median Market Rent / Median Market Income
- $1,320 Median Market Rent / $5,098 Median Market Income = 0.26 or 26% Market Rent to Income Ratio
We can now use the market RTI ratio for Louisville to help determine the minimum monthly gross income a prospective tenant needs based on the monthly rent price. For example, if a home rents for $1,500 per month and the Louisville RTI ratio is 26%, the minimum acceptable income would be $5,769:
- Rent to Income Ratio (RTI) = Monthly Rent Price / Monthly Gross Income
- Monthly Gross Income = Monthly Rent Price / Rent to Income Ratio
- $1,500 Monthly Rent Price / 26% RTI Ratio = $5,769 Minimum Monthly Gross Income
Rent to Income Ratios are Rising
While the rent to income ratio serves as a good guideline, not every renter will meet the minimum RTI ratio. In many cities across the country, rents are rising faster than incomes, which means a larger percentage of household income is used to pay the rent.
If your rental property is located in a market where rent to income ratios are increasing, there are several things you can do to help increase on-time rent payments:
- Thoroughly screen applicants using free online tenant screening services such as Avail, Rentberry, and Zumper to pull credit reports, and run background checks and rental history reports;
- Collect the maximum security deposit allowed by state law to use for unpaid rent, late fees, and damage beyond normal wear and tear, if necessary;
- Accept rent payments online to make it easier for tenants to pay on time using ACH, credit, or debit card payment options; and
- Require every adult tenant to sign the rental agreement and ensure each individual tenant is liable for the total amount of monthly rent.
Final Thoughts
Rent to income (RTI) ratio compares the monthly rent price to the tenant’s monthly gross income. As a rule of thumb, the lower the rent to income ratio is, the more money a tenant has to pay for other cost of living expenses, which in turn can help increase the likelihood of a tenant paying the rent on time. By setting a minimum acceptable RTI, landlords can quickly and easily screen applicants to help find the most qualified tenants.
Find this content useful? Share it with your friends!
