What Can You Afford?
Arriving at your desired monthly payment is one of the first steps in determining the price range of homes you will be able to shop for. When you determine the amount you have available for a down payment and closing costs, and how much mortgage money you will have available, then you will know what price home you can purchase.
Give or take a few thousand dollars it is easy to find out how much home you can afford because there is a popular formula that the vast majority of lenders use to qualify home buyers. This formula is published free on the Internet by the U.S. government’s home-focused agency- HUD.
The Department of Housing and Urban Development (HUD) is an organization that is designed to make the dream of home ownership possible for anyone willing to make the effort. Under HUD’s umbrella is the Federal Housing Administration (FHA) which provides the formula for you to follow. The FHA is a federal insurer that insures most conventional loans so that lenders will be more willing to loan money.
Income / Mortgage Payment Ratio
The FHA has found that most people can afford to budget a maximum of 29% of their gross monthly income (before taxes) to housing expenses, but that figure may be higher or lower depending upon the borrower’s total debt picture.
If you want to determine how much home you can afford to buy there is a two step process beginning with your monthly gross income and then second, your TOTAL long term debt. The table below illustrates the formula:
Annual Gross Income
Monthly Gross Income
29% of Gross Income
Although the chart above tells you how much 29% of your monthly income is, you can also arrive at the same figure by taking your gross monthly income and multiplying it by .29 or 29%. The figure you get is approximately how much you can spend on a mortgage payment that includes principal, interest, property taxes and homeowner’s insurance.
Income / Total Debt Ratio
While the above information will assist you in determining how much house payment you can afford, there are additional guidelines that Lenders use to establish loan limits. Other factors considered are your total Long Term Indebtedness. While you may qualify for a house payment not to exceed 29% (there are some exceptions to even this formula) most government insured loans have total debt limits between 36% of gross income on Conventional Loans and 41% on FHA and VA Loans.
If your monthly house payment (including escrows) combined with your other long term indebtedness exceeds the allowed amounts then your ability to borrow the maximum amount for a home may be decreased. As an example let us assume that your annual income is $45,000 which would normally let you qualify for a monthly housing payment of $1,088.00 including principal, interest, taxes and insurance. If the $1,088.00 monthly payment combined with your other long term debt exceeds the ratio’s above then the 29% housing allowance may be decreased accordingly.
Other items which are considered long term debt would include but not be limited to car payments, boat payments, school loans, child support, credit card monthly minimums, etc. Not included are your normal monthly expenses for utilities, auto insurance, food and clothing.
In order to qualify for the maximum housing payment, the table below will give you an idea of how much additional long term indebtedness you can have when obtaining a conventional loan (total monthly debt service of 36%).
|Gross Monthly Income||29% Allowable Housing Exp||Other Long Term Debt||Total of 36% monthly payment|
Keep in mind that these are merely guidelines used by Lenders and there are always exceptions. Also remember that the above table assumes a “Conventional” loan and the total allowable Long Term Debt on FHA and VA loans is up to 41%.
When you have determined your monthly payment you can click the following link to Determine a Purchase Price Range For Your New Home.