Before you start shopping for a home, you need to know what kind of home to shop for, which will be determined by how much money you have at your disposal, and how much houses in the area you’re interested in cost. The most expensive house you can buy given your income and savings is called how much home you can afford . When you’re considering buying a house, you won’t necessarily buy the most expensive home you can afford, but you should know what your upper limit is. This way, you don’t waste your time looking at homes you can’t afford, and you also don’t pass up homes you thought you couldn’t afford but which might actually be within your reach.
So, how much home can you afford? The answer to this has a lot to do with your income and the amount of your debt load. Always have in mind that to buy a house, you need both up-front money as well as the ability to make monthly mortgage payments . As a rough rule of thumb, most home buyers purchase houses that cost between 1 1/2 and 2 1/2 times their annual income . For example, a home buyer earning $35,000 per year would buy houses costing between $52,500 and $87,500. There is, however, a degree of variation due to the individual market prices of the area in which you are interested. There are also factors that could allow you to buy a home worth more or less.
The first area you need to address is that of debt; normally, the more debt you already have the less home you can buy. As a general rule, lenders would prefer that your total monthly debt does not exceed about 38% of your income. For instance, if your income is $3500/month then the lender figures your total debt can be $1330/month. But if you already have $1000/month in monthly debt before applying for a mortgage, then you have only $330/month. left for mortgage payments. Generally, you should ensure that your monthly mortgage payment does not exceed approximately 28%-29% of your gross monthly income. Your total debt payments (car payments, credit card payments, etc. plus the monthly mortgage amount) cannot exceed approximately 36%-40% of your gross monthly income. Decreasing your debt increases your borrowing power and allows you to afford a more expensive home, everything else being equal.
The second aspect that improves your borrowing power is having good credit. Good credit helps you qualify for a loan, and it helps you get a better deal (lower interest rates) when you do get a loan. The better your credit rating, the more money the bank will be willing to loan you. Lenders will check your credit record to see whether they’re willing to loan you money, and to see what interest rate to charge you (based on how much of a ‘risk’ they consider you to be).Bad credit does not necessarily mean that you can’t get a loan, but it does mean that you’ll pay a higher interest rate, and you may have to have to make a larger down payment than otherwise.
The third thing that will determine how much house you can afford is how much of a down payment you can put down. The higher the down payment you can make, the more likely you are to qualify for a loan, and the more money the lender is likely to be willing to loan you. Additionally, having a down payment of 20% or more means that you will not have to pay for private mortgage insurance (PMI), which in turn helps you afford even more home. Start preparing for buying a home by making sure that you save as much as possible towards your down payment.
Another issue to consider is the duration of the mortgage that you choose. A 30-year loan generally means that you get to make lower monthly payments, which would allow you to qualify for a much larger loan and thus buy a much larger (or nicer) house. On the flip side, you have to make payments for a much longer period than you would with a 15-year loan, which could translate to eventually paying more.
Finally, closing costs can also reduce the amount of money you have available upfront. You’ll need to either pay the closing costs from your savings (lowering the amount you have available for a down payment), or qualify for a loan that’s a little larger than the cost of the house you want to buy, and have the closing costs added to the loan (which is called “rolling the closing costs into the mortgage”). If you want to pay a high down payment and also pay for the closing costs yourself, it means that you need to save for more than the down payment before applying for the mortgage.
In summary, how much house you can afford will be determined by the money you have at your disposal. The more money you have at your disposal (both from savings, income, and loan), the bigger (and better) home you can afford.
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