Both your income and your debt determine how much house you can afford. Mortgage lenders plug these figures into certain calculations and ratios to come up with the loan amount they’re willing to offer. Knowing that number in advance allows consumers to shop only for homes that they will likely be approved for.
Going through the homebuying experience with confidence that your loan will be approved is worth a little math up front. Here’s how to figure out how much house you can afford based on income and debt.
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Ways to Calculate How Much House You Can Afford
Lenders may run your financials through a few different calculations when determining how much house you can afford based on income.
Using Your Debt-to-Income Ratio
Debt-to-income ratio is simply your total debt divided by your total income, shown as a percentage. Lenders use the ratio to help determine how much mortgage you can afford.
Generally, 43% is the highest acceptable ratio a buyer can have and still obtain a Qualified Mortgage (a category of lower risk loans). To assess your ratio, plug your numbers into a home affordability calculator.
Using the 28/36 Rule
The 28/36 rule combines two ratios that lenders use to determine home affordability based on income and debt. The first number sets 28% of gross income as the maximum total mortgage payment, including principal, interest, taxes, and insurance. The second number sets the limit on your mortgage payment plus any other debts you owe at no more than 36% of your gross income.
Example of the 28/36 rule: If your gross income is $6,000 per month, your magic numbers work out to be $1,680 and $2,160. According to this rule, you should aim for a monthly mortgage payment of $1,680, as long as your total debt (including credit cards, car payment, etc) doesn’t exceed $2,160.
Factors That Affect How Much House You Can Afford
Beyond the amount of debt and income you have, there are several factors that will affect how much house you can afford — primarily your down payment and credit score.
Your Down Payment
The larger the down payment you have saved, the more house you can afford. If you can manage at least a 20% down payment, you can avoid mortgage insurance, which will save you hundreds every month.
If you’re selling your current home before buying a new one, the value of your home will ultimately determine your down payment. Be modest in your appraisal, or get the help of an experienced real-estate agent.
Your Credit Score
Your credit score is a huge factor in how much house you can afford. That’s because buyers with the best credit scores qualify for the best interest rates. With a lower credit score and a higher interest rate, homeowners spend tens of thousands more over the life of a loan.
Expenses That May Change How Much House You Can Afford
By now, you have a good indication of how much house you can afford based on income, debt, down payment, and credit score. If you’re ready for the next level of detail, keep these expenses in mind to help you avoid any budget-busting surprises.
The cost of homeowners insurance varies dramatically by area. Oklahoma and Texas have the highest average homeowners insurance cost at around $3,700 per year. That’s because homes there have a higher chance of being destroyed by a tornado. Areas with fewer natural disasters cost around $900. Homeowners insurance is a part of your 28% mentioned above. If your premium is especially high, you may need to pick a home at a lower price point.
In some neighborhoods and apartment buildings, a monthly homeowners association (HOA) fee helps pay for communal services like landscaping and elevator maintenance. A higher HOA fee will reduce how much you can afford to a surprising degree. Be sure to factor in the HOA fee when calculating your mortgage payment.
When homeowners have less than a 20% down payment, they are required to carry something called mortgage insurance, or PMI. The amount is a percentage of your loan, so the larger your mortgage, the larger mortgage insurance payment you’ll have.
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But wait, there’s more! These expenses won’t affect your loan but can still have a major impact on your budget.
- Closing costs. Expect to pay between 3% and 5% of the loan amount in closing costs (lawyer fees, home inspection, etc). For the average $450,000 home in the U.S., that’s at least $13,500. Sometimes you can roll your closing costs into your loan, but that’s more common with a refinance.
- Maintenance. The costs of homeownership can be quite hefty no matter how old your home is. If you’re not used to paying for repairs, it can be a real shock how much you’ll need to pay to repair plumbing, HVAC, roofing, and other issues that will naturally come up as the home ages. Experts advise to plan for spending 1% to 4% of the value of your home each year in maintenance costs.
- Commuting costs. If you’re moving to the suburbs or an area where public transportation isn’t readily available, your commuting costs may increase substantially. Be sure to factor these into your budget before taking on a mortgage payment.
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How Much House You Can Get With an FHA Loan
The hallmarks of an FHA loan include the ability to buy a home with a low down payment or a lower credit score. The loan is issued by a private lender, but is guaranteed by the Federal Housing Administration (FHA). Mortgage insurance is required for all FHA loans, which does decrease the amount of the mortgage you’re able to take on.
The Consumer Financial Protection Bureau (CFPB) advises consumers with higher credit scores and higher down payment capabilities to consider conventional loans because they will most likely be cheaper.
How Much House You Can Get With a VA Loan
VA loans are an excellent option if you qualify. VA loans can include zero down payment, low interest rates, limited closing costs, and no mortgage insurance — all of which make your mortgage payment more affordable. VA loan guidelines limit the debt-to-income ratio at 41%.
Steps to Try When Your Income Is Too Low
Let’s say you don’t qualify for a mortgage sufficient to buy a home in your desired area. Don’t give up: There are some things you can do to keep moving toward homeownership.
Look for Programs Specifically for Low-Income Households
You may qualify for down payment assistance, grants, or programs designed for low-income households. Self-help build programs, which allow you to build equity by making improvements to the house, also subsidize the interest rate on your mortgage or offer a longer term on your loan. This can help make the monthly payment match your budget. A Housing and Urban Development (HUD) counselor may be able to point you in the direction of programs in your area.
Consider a Cosigner
It’s not uncommon to see a cosigner alongside a mortgage applicant. A cosigner is responsible for the mortgage if the primary borrower is unable to pay. They must have a credit score above 670 and show they have sufficient income to make payments on the loan if the original borrower defaults. If you’re sure you’re able to make the mortgage payment, a cosigner could be just what you need to become qualified.
Increase Your Income
Sure, it’s easier said than done to increase your income. However, negotiating a pay raise, finding higher-paying work, or taking on a side hustle could help the income equation on your mortgage application.
Consider a Different Area
Rural areas tend to be much more affordable. You can also finance a home with a zero-down United States Department of Agriculture (USDA) loan in a qualified rural area. You’ll have to weigh the benefits of cheaper housing against living farther from family support and possibly fewer available job opportunities.
Reduce Your Debt
If debt is preventing you from qualifying for a mortgage and your top goal is to get into a home, a laser-like focus on paying off your debt can help. Try using any “bonus” money — your tax refund, birthday cash — to pay it down. Above all, make a solid, strategic plan (and get your partner on board). This debt payoff planner can help.
How many times my income can I afford in a house?
Aim to buy a house that equals three to five times your yearly income. If you have more debt, you’re looking at the lower end. Less debt means you can aim for a higher number. However, this calculation may not work for every situation and housing market. A mortgage lender can help with your unique situation.
How much do I need to make to buy a $450K house?
The rule of thumb is to spend about 28% of your income on housing. If you are a first-time homebuyer with an FHA loan, the payment for a $450k house with an interest rate of 5% and a down payment of $15,750 (3.5%) is $2,331 for principal and interest.
That $2,331 payment amount would need to be 28% of your income or less: You would need to make more than $8,325 gross per month or $99,900 per year (assuming you had no debt; the calculation changes with the amount of debt you’re servicing each month). Your best bet is to talk with a mortgage lender who can look at your income and debts, and find a mortgage that works for you.
What is the mortgage on a $500K house?
For a conventional loan with a 20% down payment and an interest rate of 5%, the payment for a $500K house would be $2,147 for principal and interest. The real number for the mortgage on a $500K house will depend on your interest rate, down payment, and loan type.
Take steps to understand how lenders look at your income, debt, credit score, and down payment. Use the 28/36 rule to determine your max mortgage payment and overall debt. Then factor in other expenses like insurance (homeowners and mortgage) and HOA fees, plus home maintenance and even commuting costs to determine how much home you can afford.
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