The first step from dreaming to buying is deciding exactly how much you can comfortably afford to spend each month. If you spend too much, you could end up having a lovely but empty home that you can’t enjoy. If you spend too little, you could end up with something that doesn’t meet your needs and that could require costly additions or another move to find your heart’s desire. By fully understanding your financial picture and the costs of owning a house, you can make an educated decision about what are actual necessities and which of your “wants” get to make the list to find the best home possible.
How Much House Can I Afford?
The amount you can borrow and your monthly payment will be contingent on several things, including the size of your income, down payment, your credit history, the interest rate and the lender. But, there are some basic rules that can help you estimate what might be comfortable for you and what lenders may accept.
If you are currently renting, visit our Resource Center for more information about buying vs. renting.
One suggestion is to aim for a home that costs about 2.5 times the amount of your gross annual salary (salary before taxes), depending on your debt. If you have credit card debt or other financial obligations, you may only be able to secure a smaller loan. Another hint: To stay comfortable, make sure that all of your monthly debt does not exceed 36% of your gross monthly income and your mortgage payment does not exceed 28% of your gross monthly income.
What Is My Current Financial Situation?
Most mortgage discussions start with a credit score. Any lender will want a complete picture of your finances; it will help them evaluate how likely you are to repay your loan. Several factors are used to calculate your score, including payment history, amounts owed, length of credit history and types of credit used.
A great place to start is by checking your credit report. You’re entitled to one free copy of your report every year from each of the major credit reporting agencies, Experian, Equifax and Transunion.
Annualcreditreport.com is a good site to use to check all three and the only site authorized by the US Government. Credit scores are not free and if you’re going to spend the extra money, make sure you’re getting a score that lenders will use.
If you’re concerned that your score is not high enough, there are a few things you can do to help raise it, although it does take time: 1) Pay your bills on time and, if possible, pay more than the minimum on any credit card debt. Showing that you can manage your debt will help increase your credit score. 2) Correct any errors on your credit report. Look for outdated information, incorrect payment status and any problems because of identity theft. If you find any issues, contact the reporting agency directly to correct them.
This is also a good time to add up your monthly expenses and consider your immediate financial future. Is your employment situation stable? Will you need a new car? Do you foresee a friend or family member needing financial help? Do you plan to go back to school? The bank may not consider these things when deciding to give you a loan, but they will possibly contribute to a potential financial stress and may hinder your ability to pay your mortgage.
How to Use a Home Loan Calculator
A home loan calculator will help you estimate your monthly payment based on several factors. It’s great for understanding the impact of the different variables when figuring out how much mortgage you can afford. More sophisticated calculators will figure out the amortization schedule and can also help determine when to cancel PMI. Our tools and calculators can help you understand the impact that different mortgage rates and the length of the loan will have on your monthly payment.
The mortgage amount is the amount you borrow. It’s the cost of the home minus the down payment. The interest rate is projected and may change depending on the length of the mortgage and your credit history. The mortgage period is the amount of time that you take to pay the loan. The most common terms are 15, 20 or 30 years.