People looking for a mortgage usually begin by asking,”How much can I borrow?” That question may be better phrased as,”How much does lenders allow me to borrow?” Banks and other lenders use formulas to determine the maximum amount that they think you can manage based on how much cash you have and the amount of the income is already spoken .
Lenders look at your mortgage application with two numbers in mind. The first is the gross income, or how much money you make each month before taxes. The next is the total amount of money you spend each month on household debt obligations –everything from house and car payments to credit card debt and student loans. Lenders refer to this relationship between those amounts as the”debt-to-income ratio,” or DTI, and it is expressed as a percentage. By way of example, if your before-tax household income is $7,000 per month, and your total monthly debt payments add up to $2,100, then your DTI will be 30 percent ($2,100 will be 30 percent of $7,000). Lenders also look at the”housing ratio” That’s the portion of your gross income that would be eaten up from your house payment. Say that your debt obligations, $1,800 is for a house payment. Your housing ratio is about 26 percent.
Most lenders do not wish to see a DTI higher than about 36 percent and a housing ratio higher than about 28 percent. If your gross monthly income is $7,000, you are able to afford a maximum house payment of about $1,960, out of a maximum monthly debt load of about $2,520. If your monthly debt obligations are already pretty high on your income, then that’s going to decrease the quantity that mortgage lenders are willing to give you.
Once you’ve determined your maximum monthly payment, then you can start to figure out how much you can borrow. Use the above illustration of a $1,960 maximum payment. The very first point to notice is that, so far as lenders are concerned, your house payment does not just include the principal and interest you’re repaying the bank. Additionally, it includes the costs of real estate taxes and insurance premiums. These vary based on where you live, which means you’ll have to do some research. As an example, in California in 2010, the average cost of homeowners insurance has been 730, based on HomeInsurance.com. That comes out to about $60 per month. And state your property taxes come out to $3,600 a year, or $300 per month. Blend both –$360–and subtract it from your maximum monthly payment. In this case, you get $1,600.
There are lots of easily available mortgage calculators that you can use to interpret your own monthly payment to some mortgage figure. You’ll need to get some idea of what interest rates can be found. Using the Bankrate.com calculator, for example, you find that a $268,000 mortgage for 30 years at 6 percent interest provides you a monthly payment of about $1,600. Does a $240,000 loan at 7% interest, or a $280,000 loan at 5.5 percent.
The 28 percent and 36 percent thresholds”went off” for a while during the housing bubble of the early 2000s, when important lenders were accepting DTIs of as large as 49 percent, based on Bloomberg Businessweek. The tighter lending standards that followed the bursting of this bubble created 28 percent and 36 percent regular again.