Estimating Home Affordability
Don’t let a seemingly hefty mortgage pre-approval loan amount trick you into thinking you can afford more than reality dictates. These quick tips will help you evaluate your financial standing so you know exactly how much cash is backing your home purchase:
- Generally, the cost of your home should not exceed three times the amount of a borrower’s gross annual income.
- Calculate Monthly Discretionary Income, which is done by subtracting the payments you make every month from your gross monthly take home.
- Consider loan-to-value. A borrower's LTV is the cost of the mortgage loan weighed against the value of the property. If the home is worth $100,000 and you have secured a loan for $75,000 your loan-to-value ratio is 75%. Borrowers with lower LTV assume more risk upon themselves, alleviating the lender
- Consider debt-to-income ratio (recurring monthly debt divided by gross monthly income). This can also be done with several free calculators online. Having a DTI of 33% max is favorable for financing.
- Figure your down payment. If you can pay 20% down, fantastic. You’ll lower your monthly payment and avoid extras like mortgage insurance. However, 20% is often unrealistic. Options through FHA require down payment as low as 3.5%. VA, if you’re eligible, offers veterans zero down payment options.