One of the most challenging aspects of house hunting is determining just how much home you can afford. For many decades, mortgage companies used a simple formula to qualify borrowers for home mortgages — your monthly mortgage payment should not exceed 28% of your gross take-home pay. This amount includes taxes and insurance. Your total monthly debt payments, which includes your mortgage, should not exceed 36%.
Today, mortgage lenders rarely use this method, but a calculation of how much income a person has poor paint off their mortgage debt, some still use ratios others avoid them. However, regardless of the method uses tend to qualified buyers, new mortgage rules require lenders to verify that the person has the income and the other requirements to repay the loan.
Conduct a housing assessment
Prior to completing the application for a home mortgage, you need to review your current housing situation to get a better feel for housing-related finances and determine how much you want to borrow. Begin your evaluation by asking yourself the following questions:
- Will you have to pay the same amount for the home mortgage?
- Can you afford to pay more?
- If you can pay more–how much more?
Add up your gross monthly income, which includes salary, tips and bonuses. Calculate your annual income and divide by 12—this is your average monthly gross income.
Calculate your monthly debt load
Make a list of all of your monthly obligations (fixed expenses), including credit cards, car loans, installment loans, personal, that’s and other ongoing monthly payments. This may also include alimony and child support. For installment debt, use the current monthly payment for this calculation.
Add the monthly minimum payment for each revolving credit card obligation. If a debt is scheduled to be paid off in less than six months, do not include it in your calculation.
After you add up the figures, the total is called your monthly debt service. Divide the fixed expenses into your monthly gross income, and multiply by 100. This is your debt-to-income ratio.
For example: Monthly income = $3,800, Fixed expenses = $ 1,100
1,100/3,800 = 0.28 * 100 = 28.9%
The debt-to-income ratio gives you a rough approximation of how the lender will look at you income versus debt obligations to decide how much mortgage you can qualify to receive base on their underwriting criteria.
How much can you afford?
For borrowers, the conventional method of determining how much you can realistic afford to pay for mortgage is safe — again, 28% of your gross take-home pay for mortgage payment, taxes and insurance and a total of 36% for all debt obligations.
Use the PrimeRates.com mortgage calculation tool to help you determine how much house you can afford. Enter the loan amount, length of the loan, and the loan interest rate. Play around with various loan amounts and interest rates scenarios to better understand the mechanics and your options.
In most cases, borrowers will not have an idea what the tax and insurance expenses will be for the property. In this case, plug in 15% of the monthly mortgage payment amount towards this expense. The remainder of the payment will be applied toward principal and interest repayment.
Keep in mind that each mortgage lender determines its underwriting guidelines, which means more or less flexible with the debt-to-income ratios. For example, home buyers who can put down a larger cash down payments or have a rich relative co-sign on the loan may have less weight placed on qualifying ratios by the lender.
Even if your mortgage lender qualifies you for a higher amount of money, you don’t necessarily have to take the maximum loan amount approved.