Sharply higher mortgage rates have caused a sudden pullback in home sales, and now sellers…
Are you ready to buy a house? How much can you afford? Answering that second question may not be so easy. Before you snap up that seemingly great buy on a home, learn how to analyze what “affordability” means.
Beyond the property’s price tag, a host of other financial and lifestyle considerations should figure into your calculations as to whether you can afford to buy a house.
Determining your debt-to-income ratio (DTI)—more specifically, the front-end DTI—is an important factor in getting a mortgage.
You should also evaluate the local real estate market, the economic outlook, and the implications of staying put for at least a decade.
What are your lifestyle needs, present and future, and which habits and expenditures could you give up to invest in a house?
Your Debt-to-Income Ratio
The first, and most obvious, decision point involves money. If you have sufficient means to purchase a house for cash, then you certainly can afford to buy one now. Even if you can’t pay in cash, most experts would agree that you can afford the purchase if you can qualify for a mortgage on a new home. But what sort of mortgage can you afford?
The 43% debt-to-income (DTI) ratio standard is generally used by the Federal Housing Administration (FHA) as a guideline for approving mortgages. This ratio is used to determine if the borrower can make their payments each month; some lenders may be more lenient or more rigid, depending on the real estate market and general economic conditions. A 43% DTI means all your regular debt payments, plus your housing-related expenses—mortgage, mortgage insurance, homeowner’s association fees, property tax, homeowner’s insurance, etc.—shouldn’t equal more than 43% of your monthly gross income.
For example, if your monthly gross income is $4,000, you multiply this number by 0.43. $1,720 is the total you should spend on debt payments. Now, let’s say you already have these monthly obligations: minimum credit card payments of $120, a car loan payment of $240, and student loan payments of $120—$480 in all. That means theoretically you can afford up to $1,240 per month in additional debt for a mortgage, etc., and still be within the maximum DTI. Of course, less debt is always better.
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