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7 Steps To Knowing How Much Home You Can Afford

By
Real Estate Broker/Owner with The Skagit Investment Group, Corp
Whether you want to buy your first home or move up to a better one, your first step is determining how much you can afford. For most people, that means finding out what mortgage amount they can qualify for. Once you know that, you can add your down payment to determine the price range you should be looking at as you shop for your new home.

Take the time to gather some information and run the numbers before you begin your home search. This preliminary exercise will save you time and avoid the disappointment of falling in love with a home you really can't afford. If you're not quite ready to "go public" however, just follow the steps below. You may learn you can buy a lot more home than you thought possible.

Step 1:To get a rough estimate of your buying power, we'll assume you'll choose a 30-year fixed-rate mortgage. (You may decide later to go for a shorter-term loan with a lower interest rate and higher monthly payment. Or you may opt to take a lower-interest adjustable-rate mortgage, knowing you could end up paying a higher rate in later years of homeownership. Both of these choices would affect how much mortgage you can qualify for.) As a first step though, find out the average interest rate currently available for a 30-year fixed-rate loan with no points. For current rates, check your local newspaper, search online or give us a call.

Step 2:Calculate your gross monthly income--the amount you make before deductions. Add your spouse's gross monthly income, if any.

Step 3: Multiply the income amount by 36% (.36). This is called the "debt ratio."

Step 4: Then subtract long-term monthly payments (more than 10 months), such as car loan payments, personal loans, alimony, child support or regular payments toward a credit card balance. This is the generally accepted standard lenders use to determine what borrowers can afford, after a down payment of 10%. Some lenders and mortgage plans apply more or less strict criteria, such as 33% with a 5% down payment or 38% with a 20% down payment.

Step 5: Also, many lenders calculate a "housing ratio" of 28% times gross monthly income. The result does not take into account long-term monthly debt payments. To qualify for a mortgage, lenders may require ratios of, say, 28/36. The first number means the maximum mortgage payment you qualify for could be up to 28% of gross income. The second number means the maximum mortgage payment plus monthly debts could be up to 36% of gross income.

Step 6: Take a "guesstimate" of average annual real estate taxes in your area, plus the annual cost of homeowner's insurance. Divide by 12 to obtain a monthly figure. (On average, the monthly cost of these two items might be about one-tenth of 1% of the home's purchase price).

Step 7: Deduct the monthly taxes and insurance cost from both figures you arrived at in Step 4 and Step 5. The result is the ballpark monthly payment on principal and interest you can afford to pay on a mortgage.

Knowing the amount of principal and interest (PI) payment you can make, you can now calculate the amount of mortgage you would qualify for, at various interest rates.Remember, the price range of homes you can afford is figured after a down payment is added to your qualified loan amount. In addition, you'll need to set aside cash for closing costs and points payments, if any. (Ask us how much these might add up to in your specific situation.) You should also budget a reasonable amount for moving costs, as well as furnishing and decorating your new home. Whenever you're ready to find your dream home, give us a call!

Comments (2)

Rich Jacobson
Fathom Realty West Sound - Poulsbo, WA
Your Kitsap County WA Real Estate Broker

Hey, Jodi!

Welcome to the ActiveRain Network! I think you'll find the resources and relationships you develop here extremely beneficial to your business. In your future blogs, you might want to reference the source for your material, just to avoid any copyright issues. Also, I would encourage you to blog about your local area. That will help to further drive potential clients to you!

Feel free to ask any questions along the way!~

 

Nov 17, 2006 05:26 AM
Sharon Simms
Coastal Properties Group International - Christie's International - Saint Petersburg, FL
St. Petersburg FL - CRS CIPS CLHMS RSPS

Hi, Jody! Great to hear from you in between Cyber gatherings.

#6 is really critical here in Florida with such rapidly rising insurance rates and property tax increases. 

Nov 17, 2006 11:34 PM