Understanding the Debt to Asset Ratio

Share:

The debt to asset ratio is a metric that helps an individual to determine if they have over-borrowed (or) are in a difficult situation, i.e., they are experiencing solvency concerns. When taking out a new loan, the debt-to-asset ratio should be considered. If you have previously borrowed above your ability to repay, it is best not to take out another loan. Your financial responsibilities will rise as a result. A better option would be to wait until you have paid off your previous loans.

The formula to calculate the ratio is:

Debt to Asset ratio = Total Debt / Total Assets

Let’s understand with the help of an Illustration:

Mr. Amit runs a business who has various debt obligations such as Home Loan, Personal loan, Credit Card Balance, And Other Outstanding Debt worth Rs. 50,00,000 and he has total assets worth Rs. 1,50,00,000. What would be his debt to asset ratio?

= 50,00,00/1,50,00,000
= 33%

 

Whereas, Total debt includes standard debts such as a vehicle loan, a home loan, or a personal loan, as well as credit card payments and money borrowed from private lenders.

An individual’s Total assets includes all that he or she has. These include cash, investments, a vehicle, a home, jewels, land and property and so on.

An ideal debt-to-asset ratio is no more than 50%. It is recommended that your debt (loans, credit cards) not exceed 50% of your entire assets.

Your debt to total assets ratio calculates the percentage of your assets owned by creditors. Your ratio decreases when you begin to repay obligations such as a personal loan or mortgage.

Debt to total assets ratios is often higher in young people and decrease with age. As you approach retirement, the smaller your ratio, the better.