Thursday, April 5, 2012
Income and Mortgage
When determining how much house you can afford, you need to take into account your entire housing payment, not just the mortgage payment.
And certainly not the interest-only mortgage payment, which used to be the norm before the mortgage crisis reared its ugly head.
For example, you may find that you qualify for a mortgage at a rate of 4.25% on a 30-year fixed.
On a $200,000 loan amount, the monthly mortgage payment would only be $983.88. Pretty cheap, right?
However, you also need to factor in property taxes and homeowners insurance, not to mention maintenance costs and other intangibles.
And if it’s a condo, you’ll also need to factor in the HOA, which can be pretty pricey. In fact, in Los Angeles, many condos have monthly HOA dues that exceed $400.
So let’s assume you buy a condo that sells for $250,000, and put 20% down. As mentioned, your mortgage payment would fall below $1,000, which could be lower than the rents in the area.
But once we add the monthly HOA dues of say $400, and another $350 for taxes, you’d be looking at a monthly housing expense of roughly $1,750.
Assuming you put even less than 20% down, you may also be subject to private mortgage insurance, which could further increase your housing costs.
Wow. What happened to that $1,000 a month mortgage payment? It nearly doubled in the blink of an eye.
Consider All Other Expenses
Aside from your entire housing payment, you also need to consider all your other monthly obligations, such as car lease payments, credit card payments, health insurance, utilities, etc., etc.
All of these items will be a factor in determining your debt-to-income ratio, which banks and mortgage lenders rely upon to determine how much you can borrow. Yes, they have a say in it also.
The DTI ratio is broken down into a front-end ratio and a back-end ratio.
You may see limits of 30/45, meaning your monthly housing payment cannot exceed 30 percent of your gross monthly income, and your housing payment plus all other monthly obligations cannot exceed 45 percent of gross income.
So even if you think you can afford more, the lender will limit you based on their own risk appetite. Of course, their limits are usually pretty high, so if you’re exceeding them, you may be headed for trouble.
The Mortgage vs. Income Rule of Thumb
I hate rules of thumb. Why? Because we aren’t all the same, so one single rule won’t work for everyone.
And it’s just lazy. Instead of actually running the numbers, you’re relying on a rule that someone came up with to sum it all up, which could be completely wrong.
Some say to buy a home that is worth 2.5 times your annual gross salary. So if you make $100,000 a year, you’ll be able to buy that $250,000 condo.
But what if the HOA is $500 a month. Or just $200 a month? That $300 difference is certainly significant. Or what if it’s a house without HOA dues?
And what if you only put down 3.5% down via an FHA loan, as opposed to coming in with 20% down and avoiding mortgage insurance entirely?
As you can see, housing payments can fluctuate wildly, so you can’t just rely on a blanket rule.
Speak with your loan officer or mortgage broker to get a good idea of what you can afford when they get you pre-approved. And make sure you’re comfortable with the payments.
At the end of the day, everyone is different, and you may only want a house that is “X” times your salary, while another person may be comfortable with a housing payment double that.