Whether you’re looking to support your growing family or for more space for your fur babies to run around, buying a house is no easy feat — especially when it comes to determining your budget and how much home you can actually afford. It’s crucial to be realistic about the dollar amount you can put behind your future home because you would hate to fall in love with a place that’s out of your price range. The trick is to know your budget right off the bat and of course, make sure you stick to it so the home buying process can run as smoothly as possible.
But what are the steps to ensuring you are looking for and buying a home you can actually afford? Rocket Mortgage, an online mortgage experience that guides home buyers through the mortgage process, advises to follow the “29/41 Rule Of Thumb For Home Affordability.” When lenders evaluate your mortgage application, they calculate your debt-to-income ratio. This is your monthly debt payments divided by your monthly gross income. Lenders look at this number to see how much additional debt you can take on.
According to the 29/41 rule of thumb, it’s best to keep your DTI within a range that’s defined by these two numbers. Here’s an example: The first number, 29, represents your housing expense ratio. This is calculated by dividing your mortgage payment (principal, interest, real estate taxes, homeowners insurance and, if applicable, homeowners association dues and mortgage insurance) into your gross monthly income and converting to a percentage. You’ll want to make sure your mortgage payment is no more than 29 percent of your gross monthly income and that your total monthly debt (mortgage plus car loans, student debts, etc.) is no more than 41 percent of your total monthly income.
In addition to DTI and housing expense ratio, home buyers will also want to take into consideration mortgage term and down payment when looking into home affordability. Mortgage term refers to the length of time you have to pay back the amount you’ve borrowed. The most common loan terms are 15 and 30 years, but there are other terms available.
Once you close on your home loan, your monthly mortgage payment may be the biggest debt payment you make each month, so it’s important to make sure you can afford it. If you need help calculating this number, Rocket Mortgage offers a free mortgage calculator to help buyers estimate their monthly payment. They also offer a Verified Approval Letter (VAL), which in a competitive market, can give you an edge by letting the seller know your finances are secure.
As for down payment, wondering how much you’ll need is common. You might think you need to plunk down 20 percent of your purchase price for a down payment, but that’s actually not true. You can get a conventional loan (a loan backed by Fannie Mae or Freddie Mac) for as little as three percent down, according to Rocket Mortgage, and you might not have to put down anything at all if you qualify for certain government loans.
Also note that one of the advantages of a higher down payment is no mortgage insurance. Mortgage insurance protects your lender and the mortgage investor if you don’t make payments and default on your loan. If you put down less than 20 percent, you’ll pay mortgage insurance, which can involve a monthly fee as well as an upfront fee depending on the loan option you qualify for. When paying private mortgage insurance, note that Rocket Mortgage has some of the lowest PMI rates available ($44 compared to the $80 national average).
Essentially, deciding how much house you can afford varies from person to person because no two financial situations are the same. It requires you taking a deep look into your finances and not just how much money you want to spend on mortgage payments each month. Home searching may be a tough process at first, but remember the end goal is a home that you’ll love. But by doing your research and using helpful tools at your disposal, you can find the home of your dreams and be able to afford it.
This article was created by SheKnows for Rocket Mortgage.