When shopping for a new home, you need to know how much house you can really afford – understanding your limits will help you focus your home search on properties within the right price range, even before you apply for a mortgage.
Youd think this would be a complicated calculation with several years worth of tax returns and possibly an advanced degree in economics. But in fact, learning your home buying limits only takes a few minutes and some simple math.
Mortgage rule of thumb
The most important factor that lenders usually use to thumb for how much you can borrow is your debt-to-income ratio, which determines how much of your income is needed to pay your debt obligations, such as your mortgage, your credit card payments and your student loans.
Lenders usually do not want more than 28% of your gross (i.e. before taxes) monthly income to go towards your housing costs, including your mortgage payment, property taxes and insurance. Once you add in monthly payments on other debts, the total should not exceed 36% of your gross income.
This is the mortgage rule of thumb, or sometimes the rule of 28/36.
If your debt-to-income ratio exceeds these limits on a home you are considering buying, then you may not be able to get a loan, or you will have to pay a higher interest rate.
Calculate your debt-to-income ratio
As I said, this is easy to calculate.
The first thing you need to do is determine your rough monthly income – your income before taxes And other expenses are deducted. If you are married and apply for the loan together, you should add together both your incomes.
Then take that total and multiply it first by 0.28 and then by 0.36.
For example, if you and your spouse have a combined gross monthly income of $7.000 has:
$ 7,000 x 0,28 = $ 1,960
$ 7,000 x 0,36 = $ 2,520
Means that your mortgage, taxes and insurance payments should not exceed $1.960 per month, and your total monthly debt payments should not exceed $ 2.520, mortgage payment included.
Unfortunately, you must keep your monthly payments under Of these limits. So the next step is to see what effect your other debts are having. Add your monthly non-mortgage debt payments, such as z. B. Monthly credit card or car payments.
For this example, we will assume your monthly debt payments come to $950. Calculating the maximum mortgage payment:
$ 2.520 – $ 950 = $ 1.570
Since in this example you have relatively high non-mortgage debt, you are limited to spending $1.570 on a mortgage, taxes and insurance For a new home. If on the other hand, you only had $500 in non-mortgage monthly debt payments, you could spend the full $1.960 on your home, since $1.960 + $ 500 = $ 2.460 (or less than your total monthly payment limit of $2.520).
Remember, this is just a rule of thumb
It is important to remember that just because the bank will lend up to this amount, you should not necessarily borrow that much money.
This is simply a guideline you can use when shopping for a home, so you can focus on homes that are in your price range.
In reality, your specific financial situation will dictate what type of home And mortgage payment will be best for you.