Purchasing a new home is the biggest investment of my life so it is essential to have a realistic idea of ‘how much house can I afford’ before entering negotiations or give sellers an offer to purchase. As a newbie home buyer, it is important to know what comfortable home value fits your budget and how can you avail affordable home mortgage loan. Remember, a mortgage lender considers several financial factors before sanctioning the potential buyer’s loan proposal. They evaluate the risk involved with the mortgage deal and check your ability to pay back a mortgage. The mortgage lenders take into account the buyer’s debt to income ratios, FICO credit score, employment duration, history of good debt management, bill payment history, and current financial obligations such as credit card debt, child support, student loans, auto loans, alimony, business expenses, etc. Read on to get a clear idea of the financial issues which actually matters while borrowing a mortgage loan.

Risk calculation by Home Mortgage Lenders

Maximum lenders generally compare GMI (gross monthly income) to total monthly home expenses or to home expenses plus over recurring debt. The traditional lending institutions are more stringent in their regulations and tend to stick to this rule whereas the more common FHA loans are a little more lenient and loosen mortgage restrictions if the individual has a good financial appearance.

Comparing Gross Monthly Income to Total Monthly Home Debt

A home buyer must sum up all sources of income including working income, rental income, dividends, pensions, and other reliable income prior tax deduction and divide them into 12 monthly values. Then find the total probable monthly home expenses which are the monthly mortgage for principal and interest, as well as total annual property taxes and hazard home insurance divided by 12 months. Now divide Total Monthly Home Debt by GMI. As a buyer your goal must be to keep the ratio at 28% or below, to evade creating higher obligations for the buyer and greater risk for the mortgage lender.

Comparing Gross Monthly Income to Total Recurring Monthly Debt

Add all the recurring debts that last longer than 6 months and require minimum payments to avoid penalties like car payments alimony, child support, student loans, business investments, etc). Then divide it by GMI (gross monthly income). This ratio should be less than 36% for traditional loans, or can possibly increase up to 41% with more lenient and popular FHA loans.

How long the buyer expects to be in the property

It is a crucial question that a mortgage lender asks to check the buyer’s financial planning for future. If the duration is less than 2-3 years, perhaps renting may be a more financially savvy option for you due to the expenses of real estate fees, closing costs, maintenance, landscaping. However if the buyer expects to have a large increase in salary and raising working hours perhaps an adjustable rate of mortgage can be available.

Down payment and closing cost

A buyer needs to determine the amount of down payment available, as most FHA loans require 3 percent to 5%, and conventional loans may need up to 10% depending on the approval process. Closing costs need to be added to the down payment to calculate the total amount at closing. Make sure the loan value is large enough to cover the remaining home expense after closing costs and down payment have been calculated into the situation.

Credit score

Credit score plays a substantial part in determining the interest rate on your loan and your mortgage pay therefore find ways to increase your credit score before applying for a loan. Pay all bills on time and stop opening new lines of credit. If possible, get a free credit report from each of the three major credit score organizations a year, and immediately rectify if any discrepancy found in your credit report.

To summarize, knowing how much you can afford to pay for your house will certainly help you to meet your future expenses.