Mortgages and how Much You Can Afford

Buying a house with a mortgage is often the most comprehensive personal investment people make. The number of mortgages people can afford depends on several factors. It is not on just what a bank is ready to lend. People need to evaluate not only their finances but also their priorities and preferences.

Here is a bunch of information people need to consider to determine how much they can afford.

How many mortgages Can I Afford?

Commonly speaking, most prospective homeowners are able to afford to finance a property two times more than their annual gross income. For example, to illustrate this formula, we can say that a person who earns $100,000 per year can afford a mortgage of $200,000. However, we should note that this calculation is not an absolute but a general guideline.

Eventually, when choosing a property, people need to consider several additional factors. First, it is good to understand what your bank thinks you can afford and how this bank calculated the estimation. Second, you need to figure out what type of house you want to live in for a long time.

How Do Banks Determine Mortgage Loan Amounts?

While each mortgage bank maintains specific criteria in terms of affordability, your ability to buy a house will always depend on these factors.

Gross Income

Gross income is a prospective home buyer’s level of income before taking out obligations such as taxes. Gross income is generally considered the base salary added to any bonus income. It can also include self-employment earnings, part-time earnings, Social Security benefits, child support, disability, and alimony.

Front-End Ratio

Gross income plays an essential part in determining the mortgage-to-income ratio. This ratio is the percentage of the yearly gross income dedicated to paying the mortgage each month. The total amount of money that makes the monthly mortgage payment consists of four components: interest, principal, taxes, and insurance.

A good rule is that the front-end ratio should not exceed 29% of your gross income. However, many banks let people exceed 29%, and some even let people exceed 45%.

Back-End Ratio

The back-end ratio is also known as DTI – the debt-to-income ratio, which calculates the percentage of the gross income required to cover debts. Debts include child support, credit card payments, and other outstanding loans such as student, auto, etc.

In other words, if someone pays $2,000 each month in debt services and while making $4,000 each month, the ratio is 50% that is equal to half of the monthly income to pay the debt.

However, a 50% ratio is not enough to get you the house. Most banks recommend that your DTI should not exceed 44% of your gross income. In order to calculate your highest monthly debt based on this ratio, you can multiply your gross income by 0.44 and divide it by 12.

Your Credit Score

Mortgage lenders formed a formula to determine the level of risk of a prospective buyer. This formula varies, but generally, the applicant’s credit score determine it. Candidates with a low credit score have to pay a higher annual percentage on their loans. If you want to buy a house soon, you should pay attention to your credit reports. If there are incorrect records, it will take time to remove them.

How to Calculate a Down Payment

The down payment is what the buyer can afford to pay for the residence using liquid assets or cash. Banks typically demand a down payment of at least 25% of the house’s purchase price, but many banks let customers buy a home with smaller percentages.

For example, if a customer can afford to pay 11% on a $100,000 house, the down payment becomes $10,000, which means the owner has to finance $90,000.