How Much Home Can I Afford?

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How Much Home Can I Afford?

How Much Home Can I Afford

Owning a home has long been a major component of the so-called “American Dream.” It’s true that home ownership is fulfilling and liberating. But as anyone who is making mortgage payments can tell you, it doesn’t come cheap.
During the good economic times, banks practically handed mortgages out like candy. This made owning a home accessible to more people, but it also led to an alarming number of foreclosures. Today, more consumers than ever before are aware of the pitfalls of buying more home than they can afford.
The amount of home an individual, couple or family can afford depends on a number of factors. These include:
* Income – Most prospective home buyers are aware that their income plays a significant role in how much home they can afford. Simply put, if you don’t make enough to pay your mortgage payment each month, you can’t afford the house. If it were as cut and dried as that, settling on a price range would be relatively easy. But there are more things to consider.
* Down payment – A key factor in how much home you can afford is how much of a down payment you can make. Most conventional loans require a down payment of 20% of the purchase price. That’s not an amount that most people can save up in a few months’ time. Some types of loans allow for a lower down payment, or even none at all. But in exchange for that concession, you’ll have to pay private mortgage insurance (PMI) and possibly a higher interest rate.
* Other debts – All other things equal, two borrowers who have different amounts of debt will need housing in different price ranges. Most experts agree that your total amount of debt should not exceed 36% of your income. So while someone with no other debts could afford to spend the entire 36% on housing (although that’s not recommended), someone with a 15% debt-to-income ratio could only afford a mortgage equal to 21% of his income.

* Interest rate – When interest rates are low, one can afford a larger mortgage than when they are high. This is something over which we have no control. But if you are considering buying a home and interest rates are lower than the norm, moving forward now instead of waiting could be to your advantage.
The 36% debt rule is known as your back end ratio. Your front end ratio is also worth considering. This rule dictates that your mortgage payment and other housing expenses, including homeowners’ insurance and real estate taxes, should add up to no more than 28% of your gross income. This makes for a quick way to estimate how much of a mortgage you can afford. Simply multiply your monthly income by .28 and you’ll have a rough idea of how large of a payment you can afford each month.
Living within one’s means is always important, and that’s especially true during uncertain economic times. Taking the time to carefully consider how much you can afford to spend on a home could save you a great deal of anguish in the future.

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