4 Tips to Determine How Much Mortgage You Can Afford

By: G. M. Filisko

Published: March 11, 2010

By knowing how much mortgage you can handle, you can ensure that home ownership will fit in your budget.

1. The general rule of mortgage affordability

As a rule of thumb, you can typically afford a home priced two to three times your gross income. If you earn $100,000, you can typically afford a home between $200,000 and $300,000.

To understand how that rule applies to your particular financial situation, prepare a family budget and list all the costs of homeownership, like property taxes, insurance, maintenance, utilities, and community association fees, if applicable, as well as costs specific to your family, such as day care costs.

2. Factor in your downpayment

How much money do you have for a downpayment? The higher your downpayment, the lower your monthly payments will be. If you put down at least 20% of the home's cost, you may not have to get private mortgage insurance, which costs hundreds each month. That leaves more money for your mortgage payment.

The lower your downpayment, the higher the loan amount you’ll need to qualify for and the higher your monthly mortgage payment.

3. Consider your overall debt

Lenders generally follow the 28/41 rule. Your monthly mortgage payments covering your home loan principal, interest, taxes, and insurance shouldn’t total more than 28% of your gross annual income. Your overall monthly payments for your mortgage plus all your other bills, like car loans, utilities, and credit cards, shouldn’t exceed 41% of your gross annual income.

Here’s how that works. If your gross annual income is $100,000, multiply by 28% and then divide by 12 months to arrive at a monthly mortgage payment of $2,333 or less. Next, check the total of all your monthly bills including your potential mortgage and make sure they don’t top 41%, or $3,416 in our example.

4. Use your rent as a mortgage guide

The tax benefits of homeownership generally allow you to afford a mortgage payment—including taxes and insurance—of about one-third more than your current rent payment without changing your lifestyle. So you can multiply your current rent by 1.33 to arrive at a rough estimate of a mortgage payment.

Here’s an example. If you currently pay $1,500 per month in rent, you should be able to comfortably afford a $2,000 monthly mortgage payment after factoring in the tax benefits of homeownership.

However, if you’re struggling to keep up with your rent, consider what amount would be comfortable and use that for the calcuation instead.

Also consider whether or not you’ll itemize your deductions. If you take the standard deduction, you can’t also deduct mortgage interest payments. Talking to a tax adviser, or using a tax software program to do a “what if” tax return, can help you see your tax situation more clearly.

More from HouseLogic

More on the mortgage interest deduction

More on the tax advantages of homeownership

Other web resources

A worksheet on home affordability

Freddie Mac information on home affordability

G.M. Filisko is an attorney and award-winning writer who’s owned her own home for more than 20 years. A frequent contributor to many national publications including Bankrate.com, REALTOR® Magazine, and the American Bar Association Journal, she specializes in real estate, business, personal finance, and legal topics.

8 Tips for Finding Your New Home

By: G. M. Filisko

Published: February 10, 2010

A solid game plan can help you narrow your homebuying search to find the best home for you.

1. Know thyself

Understand the type of home that suits your personality. Do you prefer a new or existing home? A ranch or a multistory home? If you’re leaning toward a fixer-upper, are you truly handy, or will you need to budget for contractors?

2. Research before you look

List the features you most want in a home and identify which are necessities and which are extras. Identify three to four neighborhoods you’d like to live in based on commute time, schools, recreation, crime, and price. Then hop onto REALTOR.com to get a feel for the homes available in your price range in your favorite neighborhoods. Use the results to prioritize your wants and needs so you can add in and weed out properties from the inventory you’d like to view.

3. Get your finances in order

Generally, lenders say you can afford a home priced two to three times your gross income. Create a budget so you know how much you’re comfortable spending each month on housing. Don’t wait until you’ve found a home and made an offer to investigate financing.

Gather your financial records and meet with a lender to get a prequalification letter spelling out how much you’re eligible to borrow. The lender won’t necessarily consider the extra fees you’ll pay when you purchase or your plans to begin a family or purchase a new car, so shop in a price range you’re comfortable with. Also, presenting an offer contingent on financing will make your bid less attractive to sellers.

4. Set a moving timeline

Do you have blemishes on your credit that will take time to clear up? If you already own, have you sold your current home? If not, you’ll need to factor in the time needed to sell. If you rent, when is your lease up? Do you expect interest rates to jump anytime soon? All these factors will affect your buying, closing, and moving timelines.

5. Think long term

Your future plans may dictate the type of home you’ll buy. Are you looking for a starter house with plans to move up in a few years, or do you hope to stay in the home for five to 10 years? With a starter, you may need to adjust your expectations. If you plan to nest, be sure your priority list helps you identify a home you’ll still love years from now.

6. Work with a REALTOR®

Ask people you trust for referrals to a real estate professional they trust. Interview agents to determine which have expertise in the neighborhoods and type of homes you’re interested in. Because homebuying triggers many emotions, consider whether an agent’s style meshes with your personality.

Also ask if the agent specializes in buyer representation. Unlike listing agents, whose first duty is to the seller, buyers’ reps work only for you even though they’re typically paid by the seller. Finally, check whether agents are REALTORS®, which means they’re members of the NATIONAL ASSOCIATION OF REALTORS®. NAR has been a champion of homeownership rights for more than a century.

7. Be realistic

It’s OK to be picky about the home and neighborhood you want, but don’t be close-minded, unrealistic, or blinded by minor imperfections. If you insist on living in a cul-de-sac, you may miss out on great homes on streets that are just as quiet and secluded.

On the flip side, don’t be so swayed by a “wow” feature that you forget about other issues—like noise levels—that can have a big impact on your quality of life. Use your priority list to evaluate each property, remembering there’s no such thing as the perfect home.

8. Limit the opinions you solicit

It’s natural to seek reassurance when making a big financial decision. But you know that saying about too many cooks in the kitchen. If you need a second opinion, select one or two people. But remain true to your list of wants and needs so the final decision is based on criteria you’ve identified as important.

More from HouseLogic

HOAs: What You Need to Know About Rules

A Financial Plan for Your Home

When It Pays to Do It Yourself

G.M. Filisko is an attorney and award-winning writer who has found happiness in a brownstone in a historic Chicago neighborhood. A frequent contributor to many national publications including Bankrate.com, REALTOR® Magazine, and the American Bar Association Journal, she specializes in real estate, business, personal finance, and legal topics.

Stop Paying Rent!

Tired of paying rent for an apartment or house that doesn’t feel like home?  Dreaming of your own place but short money for the down payment?

You’re not alone.  For many renters, buying that first home seems like an impossible task.  They feel trapped in the renting cycle.

Fortunately, you can break free.  Armed with professional information, you can make owning your own home a reality.

Buying your first home is a huge hurdle, especially coming up with the down payment.  This report features professional tips and facts to help you in the process.  Learn about new financing options.  Look at your assets in a new way.  This information may solve your financing dilemma.

Explore low down payment options
You know you can make the monthly payments (you already do that), but where will you get the down payment for your home?  How can you possibly save enough money when you’re pouring your money into rent each month?

Fortunately, you may not need as much as you think.  There are many low-down payment, even zero-down, programs available.  Ask your real estate agent for information and get referrals to lending institutions.  Call all the banks and mortgage companies listed in your phone book’s yellow pages and ask about options.

Research home loans on the Internet.  You may be surprised at what you find.

There are also local and federal government programs designed to help renters become homeowners.  Again, ask your real estate about these programs.  A little homework may make the difference in financing your first home.

Work with the sellers
Ask the sellers if they’re willing to act as your lender and carry the loan.  Sometimes, if you commit to pay more than the asking price – or pay a higher interest rate – sellers carrying the loan won’t require a down payment.  Use the assets you already have.

If you don’t have debt and own an asset (like a car or boat) free and clear, you may be in better shape than you thought.  Ask your lending institution if they’ll lend you the down payment using your asset as collateral.  While this option may come with a high interest rate, it might work for you.

Ask Friends or Family Members for Help
Most lending institutions allow borrowers to use gifts for their down payment.  Perhaps a friends or family member is in the financial position to help you purchase your first home.  It’s worth considering.

Keep Saving
While you explore your options, continue to save on a regular basis, even if it’s only $25 a month.  Not only will this will take you closer to your goal, it will show lending institutions you have a record of responsible saving.

Survey: Consumers Comparison Shop for Everything Except Their Mortgage

RISMEDIA, December 15, 2010—Consumers today are expert comparison shoppers, always on the hunt for the best deal, but when it comes to their mortgage, borrowers often lock in their first home loan offer.

According to a new LendingTree survey of 1,317 homeowners conducted online by Harris Interactive in September, 96 percent of American consumers compare prices when shopping for anything, but nearly 40 percent obtain just one home loan quote. By comparison, when shopping for a home computer, consumers research an average of 3.1 models before making a purchase. This explains why fewer than 3 in 10 (28 percent) borrowers are very confident they received the best possible deal on their current mortgage.

Based on a nationally representative sample of current homeowners who were involved in shopping for their home loan, the study revealed 85 percent of consumers use the web to comparison shop, yet just more than 1 in 5 (21 percent) shopped online first for mortgage rates. Additionally, although nearly 40 percent obtain just one home loan quote, more than 9 in 10 borrowers (91 percent) understand interest rates vary between lenders.

Frustration also appears to be at the root of this shopping dilemma. According to the survey, 70 percent of borrowers find shopping for a mortgage frustrating, citing the complexity of the terms (21 percent) and time-intensiveness nature of the process (20 percent).

The survey also reveals:
• Though it is a decision that will affect them for the next 15-30 years, nearly three-quarters (72 percent) of homeowners spent the equivalent of a full working day or less shopping for their home loan. Even more shocking? One in 10 spent the amount of time it takes to brush their teeth.
• Twenty-three percent of homeowners recognize they could save more than $100 a month by reducing their mortgage rate by one percent.
• Women are more than twice as likely as men to say they were not at all involved with shopping for their mortgage or when refinancing (16 percent versus seven percent, respectively).