Real Estate: How much of a house can
you afford?
The answer to this question depends on three things: How much you earn, how much
you have saved up or plan to save toward a down payment and closing costs and last but not least, what the current interest rates are.
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Your annual income - When you apply for a
mortgage, lenders like to see you meet certain debt-to-income guidelines.
The traditional ratio for a conventional lenders (not FHA or VA) is
28:36. What that means is that your housing costs (including mortgage,
property taxes, and insurance) do not exceed 28 percent of your gross
monthly income, and all of your debt (including your housing costs, any
car loans, credit card and any other loan payments) should not be more
than 36 percent of gross monthly income. For example, if you earn
$48,000, your gross monthly income is $4,000. That means you could spend
up to $1,120 (28 percent) on your mortgage, taxes and insurance, and up
to $1,440 (36 percent) on all of your debt. Remember that gross income is
before taxes, which means your take-home pay is much less. In this case
it might be $3,000 in take-home pay, so that $1,120 actually feels more
like 37 percent, instead of 28 percent. If you had $1,440 in debts, they
would eat up almost half of your take home pay. FHA and VA insured loans
have higher ratios for qualifying.
- Down payment and closing costs - The
traditional down payment is 20 percent of the purchased price. But
if you are a first time home buyer, you may need to put down only 3 to 5
percent on a home. Some lenders will even do zero-down payment loans.
It's a good idea to go to home buying fairs or conventions, you may
learn a lot about buying a home and state programs geared toward first
time home buyers. In addition to down payment, you might have to come up with
about 4 to 6 percent of your purchase price to cover closing costs, like
points (1 point is 1 percent of the loan amount) and other fees. If you
don't have enough money, you can apply for a no-point, no-fee or also
know as no cost loan. Your interest rate will be a little higher buy you
can close on your home with very little cash.
- Interest rate - Interest rate is very important
in determining how much of a house you can afford because the lower the
interest rate, the more you would qualify for a loan. Let's take an
example again with a gross income of $1,120 per month. If you take out
taxes and insurance of $300, you'll be left with $820 a month for the
mortgage. In the 1980's when interest rates were really high (around high
teens), you'll probably qualify for only $61,000 in mortgage at 16
percent on 30 year fixed-rate loan. Compare that to today's current
environment of 6 percent, which is at 40 year low, you would be able to
borrow around $137,000. Use this
calculator to find out how much house you can afford.
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What is median price of a
home?
The cost of buying is reflected in the median
price of a home. This is a point at which half the homes cost less
and half cost more. Housing prices raised steadily in 1970's and
1980's. It stabilized in the 90's but housing prices has been
climbing rapidly for the past few years. |
Get preapproved, not just prequalified
Once you've determined how much house you can afford,
take the next step and get pre-qualified and pre-approved for a home
mortgage loan. Not only will you know your housing budget to the dollar
before you start looking for a home, you'll also have more negotiating
leverage because the seller knows you've already got a loan virtually in
your pocket.
The advantages of pre-qualification
and pre-approval are two-fold: you're more attractive to sellers, who
needn't worry that they'll accept your offer only to have your loan turned
down, and you'll save time to closing when you find a home because the
lender will have already completed the necessary qualifying and
underwriting steps.
Important note: Should your financial
circumstances change before closing, make sure to contact your lender, as
your pre-qualification or pre-approval status may no longer be valid.
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Prequalification is the process where the lender
will look at a basic copy of your credit report and use the
information you supply to determine how much mortgage you can
afford based on your income. No accounts or employment information
is verified. While a "pre-qual" is non-binding to the lender
(because the information you provide has not been verified), it
does serve as a good indication to potential sellers of your
general creditworthiness.
Preapproval occurs when all credit and
employment is verified and the mortgage is approved, subject to
the appraisal of the property you have chosen to buy. Final loan
approval occurs when the property has been appraised, all
documentation is in the hands of the lender and all contingencies
have been met.
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The commitment letter:
If your mortgage is approved, you'll receive what is
known as a commitment letter. It spells out how much you can borrow and how
long the offer is good for. It may also state the interest rate, which you
can "lock-in". The lock-in guarantees the you a specified
interest rate provided the loan closes with the buyer within a set period
of time. The lock-in also specifies the number of points to be paid at
closing. Otherwise the rate is determined when the final loan documents are
approved. If a lender turns you down for a loan, try an another lender. All
lenders use the same basic information, but they may evaluate it
differently. Commitment letter help you set realistic goals while you're
house-hunting, provide the same negotiating ability as a cash buyer, and
enable you to move quickly once the perfect home is found.
Next -->>
Working with
Owners and Real Estate Agents
Table of Contents:
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Should
you buy a home?
Renting vs. Buying:
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Steps to buying a home
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What is a
Mortgage and do you needed?
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Different types of Mortgages
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More Mortgage
Choices
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0 to 5% down
with FHA and VA loans?
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Cosigning: The Pitfalls
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Qualifying for a
Mortgage
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How much of a
mortgage and a house can you afford?
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Finding a home with FSBOs & Real Estate Agents.
- It's closing
time: Title and the keys please!
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Tapping your home
equity: Refinancing
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Tapping your home equity: Home Equity Loans
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Frequently
Asked Questions (FAQs) on Real Estate & Mortgages
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