Just because lender lets you borrow the maximum possible amount on a mortgage, that doesn’t mean you should take them up on the offer. Wondering how much of your monthly income to comfortably spend on your home? Trulia shows how to crunch your own numbers first to determine how much mortgage you can afford.
Calculate your true monthly cost
For an in-depth look at your potential mortgage payment, you’ll need a mortgage calculator that includes costs such as homeowner’s insurance or property taxes. (You want more than just a sales price and loan interest rate.) You also may need to add in private mortgage insurance (PMI) if you put less than 10 percent down on the purchase. Your monthly insurance premiums and your property taxes will depend on what you buy and where you live. When determining how much of your monthly income to spend on a mortgage payment, you need to add in both of these costs. To arrive at an accurate estimate, call insurance providers for a quote and look up property tax rates in the specific city or county.
Know the legal limits on lenders
According to the Mortgage Reform and Anti-Predatory Lending Act—a section of the Dodd-Frank Act of 2010—any entity lending money for a mortgage can’t underwrite the loan unless they determine that you can reasonably repay it. That determination is based on your credit, job history (and stability) and income. By law, lenders can’t approve mortgages that would take up more than 35 percent of your monthly income. And many lenders tend to stick with even more stringent requirements, limiting a mortgage payment to 28 percent of a borrower’s monthly income (known as the debt-to-income ratio) if a borrower’s credit scores, employment and income aren’t solid.
Limit payments to no more than 30 percent of your gross monthly income.
You also can use 30 percent as a rule of thumb when figuring out your home-buying budget. Here’s an easy formula: Multiply your pre-tax monthly income by 30, then divide that by 100. The answer is 30 percent of your pre-tax monthly income. The median income in the U.S. is $55,775. If this were your income, you’d make about $4,648 per month; 30 percent of that comes out to about $1,394. That means you could spend $1,394 on a mortgage, maximum. Remember, 30 percent is the top of the spectrum when it comes to how much of your monthly income you should spend on your mortgage. Paying less means a smaller strain on your budget. It’s a good benchmark, but this number doesn’t necessarily take your full financial picture into consideration. Consider subtracting other essential expenses (such as child care or transportation costs) from your monthly income total. In addition, your lender also will consider student loans, a car loan and credit card debt. If that debt that represents more than about 7 percent of your income, you may not qualify for a mortgage that costs 30 percent of your income. Your total debt-to-income ratio can’t exceed 35 percent, so you either need to pay off existing debts first or borrow less money to buy a home.