Figure out how much home you can realistically buy and if a lender will approve you.
According to the U.S census in 2020, over 62% of homeowners have at least one mortgage circulating over 10.3 trillion dollars in mortgage debt. The idea of debt sounds scary, but when properly understood and responsibly managed, debt can be a beneficial way of building credit history and easing large payments.
The general guideline is that people can afford a mortgage between 2-2.5x their gross income (pay before tax and other deductions). There are a few other factors that lenders use to determine if they’re willing to move forward lending money to someone, including front-end/back-end ratios and credit score. Your front-end ratio is the amount you spend per year paying back your mortgage, and this number should not be greater than 28%. The back-end ratio refers to the amount spent per year on paying back all debts, and this number should not exceed 43%. This is also known as the debt-to-income ratio. Overall credit history is also important when considering a mortgage loan. Most lenders require a score of at least 640, but this number can range higher and lower.
When you are considering a mortgage, you must calculate what you can afford as a down payment. Many lenders require at least 20%, but there are quite a few exceptions. Most loans with under a 20% down payment are subject to Private Mortgage Insurance (PMI).
While lenders decide a candidate’s financial responsibility by weighing income, assets, and liabilities, gross income such as these are considered a rough estimate. Therefore, just because a lender approves you does not necessarily mean you can afford it. Many financial experts and advisors recommend performing independent calculations using your net income so that you are fully prepared for long-term payments.