Determining how much house you can buy versus how much house you should buy is receiving much more attention these days, since the 2009 housing market crash. In the early 2000s, many homeowners overextended themselves on huge mortgage payments and wound up in trouble when they lost their jobs.
How do you calculate what you should be spending on a home? First, you run the numbers.
What Is Your Monthly Income?
Mortgage officer Roger Reitland says this is the first question lenders will ask potential mortgage recipients. This income should be documented with paystubs and tax returns. Any unreported income will not be factored into the loan application process.
Income from assets you own, such as stocks, can be used to estimate your borrowing power. However, these are less reliable sources of revenue and any significant dependency on their stability can lead to problems if and when the market takes a turn for the worse.
What Are Your Monthly Bills?
"As a loan officer, I'm only concerned with your monthly debt payments," Reitland says. "As a home owner, however, I know those bills aren't the only checks I'm writing each month."
The reason why many people can qualify for a home loan or mortgage for tens of thousands of dollars above what they may actually be able to afford is that most banks and lenders only calculate a person's debt load in the expense portion of the application.
Any student loans, car payments and credit card bills are used to determine how much money is going out each month. However, most households pay for things like car insurance, utilities, groceries, health insurance, gas and a host of other non-debt-related essentials. If these bills eat up a large part of your take-home pay, you may want to consider steering clear of homes at the higher end of the value scale.
Do You Have Enough Saved for a Down Payment?
If you have a sizable amount saved for a down payment on a house, this can significantly impact the kind of monthly mortgage payments you'll make. Putting 20 percent of the home's value down up front can shave hundreds of dollars off that monthly home loan bill.
For many home buyers, especially first-timers, it is not possible to make such a large down payment. That doesn't mean it's impossible to obtain a mortgage, but it may require those buyers to purchase a less expensive home.
How Big a Mortgage Can You Afford?
Many financial experts suggest that your mortgage payment should not exceed 28 percent of your monthly income. That is a healthy percentage for those who have considerable savings stashed for a rainy day, such as temporary job loss or injury.
If your savings account isn't as robust as you'd like, Reitland says keeping those mortgage payments at around 25 percent of your monthly income is probably a safer route. This gives you a little breathing room to start putting away more funds.
It's important to remember that the home's value isn't the only factor contributing to your monthly mortgage payment. Property taxes and homeowners insurance are often built into the home loan itself. Depending on your area and local tax burden, these expenses may make up 10 to 15 percent of your monthly payment.
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