How Much Mortgage Can I Afford?

Buying a home is one of the most significant investments you’ll ever make. As such, it’s important to know how much you can afford before taking out a mortgage. Unfortunately, determining the maximum mortgage amount you can afford isn’t always easy. There are many factors to consider, including your income, debt, expenses, and credit score. In this article, we’ll discuss these factors and provide tips on how to determine how much mortgage you can afford.

Income

The first factor to consider when determining how much mortgage you can afford is your income. Your income is the money you earn from your job, investments, or other sources. Generally, lenders use your gross income (before taxes) to determine your mortgage affordability. However, lenders also consider your net income (after taxes) to determine your ability to make mortgage payments.

As a general rule, lenders prefer that your monthly housing costs, including principal, interest, taxes, and insurance, do not exceed 28% of your gross monthly income. This is known as the front-end ratio. For example, if your gross monthly income is $6,000, your monthly housing costs should not exceed $1,680.

Debt-to-Income Ratio

Your debt-to-income (DTI) ratio is another factor that lenders consider when determining how much mortgage you can afford. Your DTI ratio is the amount of your monthly debt payments compared to your monthly income. Generally, lenders prefer that your total debt payments, including your mortgage payment, do not exceed 36% of your gross monthly income. This is known as the back-end ratio.

To calculate your DTI ratio, add up all of your monthly debt payments, including credit card bills, car payments, student loans, and any other debts. Divide this number by your gross monthly income. For example, if your total monthly debt payments are $2,000, and your gross monthly income is $6,000, your DTI ratio would be 33%.

Expenses

In addition to your income and debt, your expenses also play a role in determining how much mortgage you can afford. Expenses include things like food, transportation, utilities, and entertainment. To get an accurate picture of your expenses, create a budget that includes all of your monthly expenses.

Once you have a budget, you can use it to determine how much money you have left over each month after paying your expenses. This money can be used to pay your mortgage payment. Lenders prefer that you have enough money left over each month to cover unexpected expenses, such as car repairs or medical bills.

Credit Score

Your credit score is another factor that lenders consider when determining how much mortgage you can afford. Your credit score is a number between 300 and 850 that represents your creditworthiness. Generally, the higher your credit score, the lower the interest rate you’ll pay on your mortgage.

To get the best interest rate on your mortgage, you’ll need a credit score of at least 740. If your credit score is lower than 740, you may still be able to qualify for a mortgage, but you may pay a higher interest rate.

Down Payment

Your down payment is the amount of money you pay upfront when you buy a home. Generally, lenders prefer that you have a down payment of at least 20% of the purchase price of the home. If you have less than 20% down payment, you may be required to pay private mortgage insurance (PMI), which can increase your monthly payment.

When determining how much mortgage you can afford, it’s important to consider your down payment. The more money you have for a down payment, the lower your monthly payment will be.

Tips for Determining How Much Mortgage You Can Afford

Now that you understand the factors that determine how much mortgage you can afford, here are some tips to help you determine a comfortable mortgage amount:

Determine your budget: Before you start house hunting, it’s important to create a budget that includes all of your monthly expenses, including housing costs. This will give you an accurate picture of how much money you have left over each month to pay your mortgage.

Use an online mortgage calculator: There are many online mortgage calculators that can help you determine how much mortgage you can afford. These calculators take into account your income, debt, expenses, and down payment to provide an estimate of your monthly mortgage payment.

Consider your lifestyle: When determining how much mortgage you can afford, it’s important to consider your lifestyle. Do you like to travel? Do you have expensive hobbies? These factors can impact how much money you have left over each month to pay your mortgage.

Get pre-approved for a mortgage: Getting pre-approved for a mortgage can give you a better idea of how much you can afford. During the pre-approval process, a lender will review your income, debt, and credit score to determine how much they’re willing to lend you.

Be conservative: When determining how much mortgage you can afford, it’s always better to be conservative. Don’t stretch yourself too thin by taking on a mortgage payment that you can’t comfortably afford. Remember, unexpected expenses can always arise, so it’s important to have some wiggle room in your budget.

In conclusion, determining how much mortgage you can afford requires careful consideration of your income, debt, expenses, credit score, and down payment. By using online calculators, creating a budget, and getting pre-approved for a mortgage, you can determine a comfortable mortgage amount that fits your lifestyle and budget.

References:

Consumer Financial Protection Bureau. (n.d.). What is a debt-to-income ratio? Retrieved from https://www.consumerfinance.gov/ask-cfpb/what-is-a-debt-to-income-ratio-why-is-the-43-debt-to-income-ratio-important-en-1791/

Investopedia. (2021, March 17). How much house can you afford? Retrieved from https://www.investopedia.com/articles/personal-finance/032913/how-much-house-can-you-afford.asp

Wells Fargo. (n.d.). How much house can I afford? Retrieved from https://www.wellsfargo.com/mortgage/loan-programs/how-much-home-loan-can-i-afford/

Zillow. (n.d.). Affordability Calculator. Retrieved from https://www.zillow.com/mortgage-calculator/house-affordability/