How Much Home Can You Afford?
As a home buyer the first question on anyone’s mind is “How much home can I afford?” To better understand that question one must ask: What can I qualify for? And what Is My Maximum Loan Amount?
All mortgage lenders (all banks) calculate the maximum amount any borrower can qualify for based on a uniform set of standards determined by Fannie Mae or Freddie Mac. Lenders originate and fund the borrower’s loan amount, then sell the loan to either Fannie Mae and Freddie Mac. Thus, Fannie Mae and Freddie Mac have set of standards called underwriting guidelines.
Back To The Original Question : How Much Home Can I Afford?
Based on guidelines, mortgage lenders might calculate your maximum home purchase price and loan amount differently from what you consider comfortable. The lender’s guidelines focus on the borrower’s credit scores, income and liabilities, and down payment. Using this criteria, underwriting uses a formula to qualify all borrowers from banking institutions.
This formula is called a debt to income ration; or (DTI). Let’s examine the DTI, (debt to income ratio):
How Lenders Determine Your Maximum Purchase Price:
When lenders qualify you for a mortgage, they calculate your maximum monthly “gross” income divided by your monthly recurring debts like this: (Monthly Recurring Debts) Those reflected on your credit report only, divided by (Monthly Gross Income). The result is called the DTI, ( debt to income ratio).
The lender will use your DTI ratio to find the largest mortgage payment you could make under a maximum range of ratios allowed by Fannie Mae or Freddie Mac.
Your monthly recurring debts added to an estimated mortgage payment/ divided by your gross monthly income will produce a DTI (debt to income ratio) that must fit under the maximum DTI allowed by either Fannie Mae or Freddie Mac.
Generally, the maximum DTI allowed by Fannie Mae or Freddie Mac is 45%. That means a maximum 45% of your gross income can be allocated to pay all your recurring monthly obligations found on your credit report plus the total housing payment.
A quick example:
Your monthly household combined gross income is $7,000.00, 45% of that income is $3,150.00.
This means the total monthly payments from all accounts on your credit report, combined with the new monthly mortgage payment cannot exceed $3,150.00. If your monthly payments on your credit report include a car payment for $400, credit cards payments of $150, and student loans for $200, the total of $750 from those payments are subtracted from the $3,150.00, leaving you $2,400.00 for a mortgage payment.