Mortgage Information

How Much House Can I Afford

The First Step

Deciding to buy a house is the beginning of an exciting time in your life. There's so much to think about: neighborhoods, school districts and styles of homes to name just a few.

But before you begin looking at homes and neighborhoods, it is very important to take the first step in buying a home. You should determine how much you can comfortably afford to spend on a house. When you know how much house you can afford, you can save yourself time and headaches by looking only in areas and at homes that are legitimate options.

How Much Of A Down Payment Do I Have?

The down payment is the money that you must have up front to purchase a house. To qualify for a mortgage loan, you are usually required to have:
  • A down payment of 5% to 20% of the purchase price of the home
  • Closing costs of approximately 3% to 6% of the loan.
Not everyone can afford to put 20% down on a house, so down payments as low as 5% or even 0% are often available with special mortgage programs. However, borrowers with smaller down payments who do not qualify for special programs are required to carry private mortgage insurance (PMI). This involves an initial premium payment and monthly insurance premium payments. See "Looking for Ways to Reduce Your Down Payment" for helpful information on special mortgage programs requiring less of a down payment and other ideas on how to reduce your mortgage down payment.

You should look at the assets you will have available at the time of closing to determine how large of a down payment you can afford. This money can come from savings, investments, cash from the sale of your home or other real estate holdings or it can even be a gift from relatives. Your down payment cannot be money that is borrowed.

A. Calculating Your Down Payment
Cash, Savings & Checking$________
Stocks, Bonds and CDs$________
Mutual Funds$________
Other Investments$________
Real Estate$________
Pension or Employee Savings$________
Funds from Family$________
(Note: Remember to add only those assets which will be available at the time of closing.)

To determine how much you can afford to spend on a housing payment each month, you should keep two numbers in mind: 28 and 36. Most lenders agree that your monthly mortgage payment should not exceed 28% of your gross monthly income. And your total monthly payments on long term debt (all revolving debt and any installment debt that will not be paid off in 10 months or less, including your mortgage) should not exceed 36% of your gross monthly income. (Dollar Bank has special mortgage programs with more lenient guidelines. Ask a Dollar Bank Representative for more information.)

Not all of your monthly housing payment goes toward your principal and interest. A portion must go toward homeowner's insurance and property taxes. To take these additional expenses into account, in the charts below we will use the factors of 25% for income and 33% for debt, assuming that the additional 3% will cover insurance and taxes. To get a rough idea of the maximum monthly payment you can afford to make on a mortgage, fill in Charts B and C.

B. Housing Ratio Calculation
Gross Monthly Income from All Sources$________
Multiply by 25%x 0.25
Maximum Monthly Payment$________

C. Debt Ratio Calculation
Gross Monthly Income from All Sources$________
Multiply by 33%x 0.33
Total$________   (A)
Total Fixed Monthly Payments$________   (B)*
Maximum Monthly Payment
(Subtract B from A)
*Include monthly payments for auto loans, education loans, personal loans, lines of credit, credit cards, child support/alimony and any other debts you may have.

Compare the two monthly payment amounts that you end up with. The debt ratio method may give you a more realistic view of what you can afford because it takes your personal financial situation into consideration. Choose the lower of the two numbers to use in Chart E below when estimating how much house you can afford.

Use Charts D and E to calculate just how much house you may be able to afford. Simply take the lower of the two numbers that you estimated in step B and C and write it into the first space on Chart E. Find the point on Chart D where your annual percentage rate (APR) and mortgage term intersect, and divide your estimated monthly mortgage payment by that number. Multiply by $1,000 and that is the amount of a mortgage loan that you can probably afford.

Let's say, for example, that your income ratio indicates that you can afford a $700 house payment, and your debt ratio shows that you can afford $500 each month. You would work with the lower amount ($500) and put it in the first space of the formula in Chart E. Assume that you are applying for a 7.75% APR mortgage with a 15 year term. The loan factor at the point where a 7.75% APR and a 15 year term intersect is $9.42. Place this number in the second space. Now you simply divide $500 by $9.42, giving you the number $53.08. Multiply this number by $1,000 and you see that you can probably afford a mortgage of $53,080.

To try our mortgage calculator, click here.

The information presented in this publication is general in nature; it is not our intention to provide specific advice to individuals or a comprehensive discussion of the subject matter. We suggest that you consult with your financial or tax advisor, accountant or attorney to obtain specific advice or comprehensive information.
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