How Much Home Can you Afford?

As a prospective homeowner, the most vital question you must ask yourself is this: considering your income, just how much home can you afford?

While you’d like to get as large a house as possible, there is simply no point in over-extending your finances in order to get a larger home. After all, if you prove unable to meet the repayments you’ll risk losing your property.

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To protect against this, mortgage lenders will only approve full doc home loans under very strict guidelines. While each lender will have their own rules, there is a simple mathematical rule of thumb that you can use to figure out just how much you can expect a lender to offer.

Lenders use what is called the debt to income ratio, also known as the 28/36 qualifying ratio - to determine how much they will lend you. Let me explain.

A lender will allow only 28% of your gross monthly income to be spent on housing expenses. If your monthly income is $3,000, the lender will allow $840 for housing. This figure, though, includes all of your housing costs including property taxes, mortgage insurance, etc.

The lender will also allow 36% of your gross monthly income to be spent on housing expenses plus your recurring debts, such as credit cards, other loans, etc. So, if your monthly income is $3,000, the lender will allow $840 for housing expenses plus $240 for your recurring debts.

While it may seem unfairly constrictive that a lender would impose these limits, it works out for the best in the long run for all parties. The lender keeps their risk to a minimum while ensuring that you don’t fall behind on your payments. So, using this ratio as a rule of thumb you should be able to work out how large a loan you can expect a lender to approve.