No one wants to buy a home,
only to discover that they can't afford it and end up with their
home in foreclosure. That's why it's so important to be realistic
about what you think you can afford, now and in the future.
Qualifying ratios are used
by underwriters to determine the amount of money that you should
spend on your mortgage in relation to your income and expenses.
Government and conventional programs have more lenient requirements
for low- and moderate-income families, and usually require that
you receive financial counseling. Underwriters can use one of three
ratios to qualify you for a loan, but each application is handled
on an individual basis.
As a rule, your housing
expenses should not exceed 26 to 28 percent of your gross monthly
income. The FHA ratio is 29 percent of your gross monthly income.
Monthly housing costs include the mortgage principal, interest,
taxes, and insurance (PITI).
Loan to Value
The loan-to-value (LTV)
ratio is the total mortgage amount divided by the fair market value
of the house. This is the most important ratio.
Debt Service Coverage Ratio
The debt service coverage
ratio (DSCR) is only used for large loans on income producing properties.
How it Works
Divide your annual income by 12 months. For
example, if your annual income is $50,000 divided by 12, your
gross monthly income is $4167.
Multiply your monthly income by .28 to find
out how much you can afford for your mortgage payment. $4167
multiplied by .28 is $1167. You would probably qualify for a
conventional home loan that requires monthly payments of $1167.
If your long-term debt is used in the qualifying
ratio, debts such car payments, the total of your PITI and long-term
debt should not consume more than 33 to 36 percent of your gross
monthly income for a conventional loan.
Multiply your gross monthly income by .36.
$4167 multiplied by .36 is $1500.
Add your PITI to the amount of your long-term
expenses and this amount cannot exceed $2667 to qualify for
a conventional loan.
What is the outlook for your (and your co-borrower,
if there is one) employment?
What is the current mortgage interest rate?
Even a small difference in the interest rate will make a significant
difference in your house payment and overall loan cost. (Can
you give me an example?)
What You Can Do
To avoid wasted time and
heartbreak when you start house hunting, you have some homework
to do!
List your assets:
Income (don't forget dividends, alimony, and
child support)
Savings
Investments
IRAs, 401Ks, or KEOGH plans
Cash value of your life insurance
Equity in real estate
Gifts, if you are planning to get cash from
relatives
Now, list your liabilities:
Credit cards
Loans, including car, education, and so forth
Spousal support
Child support
Anticipate inevitable home ownership expenses such
as:
Homeowners insurance
Taxes
Maintenance costs
Utilities
Homeowners fees
When you're ready to start figuring out how much
you can afford to spend for a home, here's a calculator
that will give you a rough estimate. Feel free to use the calculator
as often as you wish until you're satisfied with the result.
