What is FOIR: Its Full Form in Banking, Formula and Calculation
FOIR (Fixed Obligation to Income Ratio) is a parameter that helps determine a borrower’s loan eligibility. With advancements in the lending market, financial institutions are becoming more flexible with their eligibility criteria. However, there are some parameters around which the lenders continue to remain stringent.
Lenders cannot compromise on the repayment capacity of the borrowers. Institutions will incur a massive loss if they provide a loan to an applicant who appears incapable of paying timely equated monthly instalments (EMIs).
Thus, looking into a borrower’s financial history, assets, liabilities, credit score, and income is crucial before approving a loan. This is where FOIR comes into the picture. Read on to learn all about FOIR and its importance.
What is FOIR?
The fixed obligation to income ratio or FOIR is also known as the debt-to-income ratio. In terms of loan eligibility, maintaining a decent (or low) FOIR is of utmost importance. It indicates your ability to repay the loan amount with interest.
Let’s simplify what FOIR really means.
Fixed obligation (FO) stands for overall debt or expenses that one has to meet by the end of the month. These monthly obligations do not include deductions for provident funds, investments, or professional taxes.
Your credit card payments, existing loan EMIs, monthly living expenses, and the EMI of the loan you applied for are included as part of your total debt. After putting your monthly income against your total debt, this parameter informs the lenders about how much disposable income you have to meet your repayment obligations.
Thus, the lower this ratio is, the better your chances are of getting your loan approved. Most financial institutions accept FOIR within a range of 40% to 55%. So, if your monthly expenses are more than 55% of your income, you might not be eligible for a loan. However, for some high-net-worth individuals, some lenders do accept FOIR above 55%.
How is FOIR Calculated for Loan Eligibility?
To analyse your repayment capacity and find out whether you are eligible for a loan, lenders use the following formula to calculate FOIR:
FOIR = [Total debt / monthly salary] x 100
Your total debt will include every financial obligation you have in a month, except tax, PF, and investment. Let’s understand this better by considering an example.
Let’s say Rajeev earns a monthly wage of Rs. 70,000. Recently, he took a car loan with an EMI of Rs. 10,000. Furthermore, his monthly living expenses come to nearly Rs. 25,000.
Thus, Rajeev’s monthly financial obligation is Rs. 10,000 + Rs. 25,000 = Rs. 35,000 and the disposable income is Rs. 70,000 (salary) – Rs. 35,000 (debt) = Rs. 35,000.
FOIR = [35,000 / 70,000] x 100 = 50%
FOIR of 50% indicates that Rajeev has enough funds left from his disposable income to pay the EMI amount of a new loan. Thus, if he has the required documents and passes other eligibility criteria, most lenders will offer Rajeev an affordable loan.
However, keeping all the other values the same, let’s consider that Rajeev’s monthly income becomes Rs. 60,000.
Thus, FOIR will be 58.3% [(35,000/60,000) x 100]
In this case, most lenders will consider his disposable income of Rs. 25,000 as too low for a new loan.
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FOIR’s Impact On Personal Loans
FOIR is relevant to all types of loans such as personal loans, home loans, etc. In the case of a home loan, lenders can make up for their losses by taking over the asset you kept as collateral.
However, a personal loan is unsecured and collateral-free, which is risky for lenders. Due to the lack of asset security, lenders will incur higher losses if a borrower defaults on loan repayment. Thus, most financial institutions will be more stringent with their eligibility parameters, especially FOIR.
A higher FOIR for personal loans indicates heavy debt and less disposable income, lowering a borrower’s creditworthiness. Thus, if you want your personal loan to be approved, paying attention to existing obligations is highly crucial.
How to Reduce FOIR
Cash loans are highly preferable as they cater to the urgent financial needs of an individual. But for borrowers with high debt, it is unfortunate that they cannot receive aid. However, you can reduce your FOIR in the following ways:
- Apply For A Joint Loan: By having a co-applicant, the burden of EMI payment gets equally divided. So, lenders feel more assured of getting back their loan amount with interest. Thus, it improves your chances of getting a loan.
- Repay Debts Regularly: If your credit history shows that you have paid all your past loans, EMIs, and credit card payments on time, the lender can trust you to pay the EMIs on time.
- Avoid Applying For Multiple Loans: Taking too many loans at once or one after the other increases the EMI component of your financial debt. Furthermore, it gives an idea that you do not know how to manage your finances.
- Maintain A Low Credit Utilisation Ratio: If the proportion of your credit amount that you are utilising to the maximum credit available to you is more than 30%, lenders are more likely to reject your loan application.
Final Word
Most borrowers are either unaware of the fixed obligations to income ratio or ignore its importance. As it represents an applicant’s repayment capability, FOIR is one of the primary parameters that a lender considers while approving or rejecting a loan request. Especially for personal loans, a bad FOIR means that paying a high EMI amount will be difficult or impossible for the borrower. Fortunately, you can reduce FOIR and get a loan using the above-mentioned strategies.
FAQs
Ans: There is no standard margin set for FOIR. However, most financial institutions require an applicant’s fixed obligation to income ratio to remain between 40% and 55%. This range can differ with the type of loan and net worth of a borrower.
Ans: Non-performing assets are those loans or advances that appear in default or arrear section of a bank’s financial statements. An asset becomes non-performing for a bank when a borrower delays interest or principal payment. Thus, the respective bank generates no income from the asset.
Ans: Only your close relatives can be your co-borrowers. So, while applying for a loan, you can only list your siblings, parents, spouses, or children as your co-applicant. Taking a joint loan improves your credit score and eligibility.
Ans: Financial institutions determine eligibility using the fixed obligation to income ratio (FOIR), instalment to income ratio (IIR), and loan-to-value ratio (LTV). These three ratios help a lender calculate your disposable income and analyse your ability to repay the loan.
Ans: To determine your loan eligibility, lenders can use a multiplier method. Under this method, they provide a multiplier to your monthly salary. The formula is Loan Eligibility = Multiplier x Monthly Income. The multiplier can range from 9 to 18, depending on your credit profile and current employment status.
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Disclaimer: This article has been prepared on the basis of internal data, publicly available information and other sources believed to be reliable. The information contained in this article is for general purposes only and not a complete disclosure of every material fact. It should not be construed as investment advice to any party. The article does not warrant the completeness or accuracy of the information, and disclaims all liabilities, losses and damages arising out of the use of this information. Readers shall be fully liable/responsible for any decision taken on the basis of this article.
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