What Are The Factors That Determine How Much Home You Can Afford?
March 31, 2010
When you plan to buy a house, it is very important to decide on a budget and find out “how much home can I afford”. If you require a mortgage to fulfill your American dream, the home you can afford will depend upon the size of the mortgage. This in turn depends upon factors like your gross monthly income and your monthly debt payments.
How can you find out how much you can afford?
You can figure out “how much home can I afford” by using an affordability calculator. The calculator requires the following inputs:
- Gross monthly income
- Funds available for home purchase
- Monthly payment towards your existing liabilities (including your monthly credit card payments, child support and monthly alimony)
- Your desirable rate of interest, time period of the loan (years) and down payment
- Annual property taxes and insurances you expect
By providing these inputs you can calculate your debt-to-income ratio and housing-to-income ratio. These ratios determine how much mortgage you can obtain.
- Debt-to-income ratio: Debt-to-income (also known as back-end ratio) compares the sum of monthly debt liabilities (including the new mortgage) to your monthly gross income. A ratio above 36 % is generally considered risky by lenders.
- Housing-to-income ratio: Your monthly gross income divided by sum of monthly housing expenses (including payments for principal and interest, property taxes and homeowners insurance) gives the housing-to-income ratio, also known as front-end ratio. By industry standards, your housing expenses should be 28% or less of your gross monthly income.
”How much home can I afford” depends on the amount you can borrow and the down payment you can make. The sum of the down payment and the mortgage you can get will help you estimate how much you can afford. Once you calculate how much mortgage you can obtain, shop around to find out the down payment requirements of different lenders. Generally, lenders require you to pay 20% of the loan amount as the down payment. If you are unable to pay 20% of the loan amount, you have to obtain private mortgage insurance. But if you pay more than 20%, the lender may provide you a mortgage at a lower interest rate. You will also have to pay the closing costs. You can pay it from your savings or get it added to the amount of the loan.
