Homebuyer's Helper: How much home can you afford?

Mon, 08 May 2017

People often start their search by getting a preapproved mortgage. That may speed things up—but there's a big difference between how much you can borrow and how much you can afford.

A lender may be willing to preapprove a loan that amounts to 30 – 35 percent of your pretax income. They may preapprove it, but that doesn’t mean you should spend it.

So how much should you spend?

The experts offer rules of thumb:

"You should be able to afford a mortgage three times your income," says HGTV's Sandra Rinomato, host of Property Virgins. "Sometimes it makes more sense to look at the price of a house in terms of monthly payments instead of focusing on that big number."

Thinking monthly is sound advice, and while they differ slightly on percentages, pretty much everyone agrees.

Why? You’ll need a cushion for emergencies.

That uninsured dental procedure? Those vet bills? That high-deductible health plan? Think about the out-of-pocket nibbles—or bites—you've already had to swallow in a given year.

Remember too: If you're moving to a bigger place, you'll no doubt have bigger utility bills. Or perhaps you'll have condo or homeowner association fees to pay.

Everything revolves around a monthly figure you can live with comfortably. Let's look at how to get there.

Here's what Webster advises:

Be PITI-less about your obligations—and expectations.

PITI stands for principal, interest, taxes and insurance—your front-end costs. Your mortgage obligations start there. Add up your PITI. (Note: If your down payment is less than 20 percent, your lender may ask for PMI—private mortgage insurance—to cover their risk. Remember to include any PMI in your calculations.)

Now total up your back-end costs—all your regular monthly debt payments (auto loans, student loans, alimony, minimum credit card payments).

Use this formula:

  1. Add your PITI to your back-end costs.
  2. Divide the sum by your gross monthly income. You'll get a good sense of where you stand.
    Remember Webster's rule of thumb: Keep all of your monthly debt obligations (home, car, utilities, and loans) less than 43% of your pre-tax income.

Let's use an example:

Meet Bill. He's a 38-year-old accountant who makes $150,000 a year, has good credit and has saved $100,000 towards a down payment. He wants to purchase a $500,000 home in a suburb of Boston. Let's see if he can afford it.

Income:

Monthly Income (before taxes) $12,500
Est Monthly Income (after taxes, 401k, insurance) $7,500

Monthly debts (bills):

Car Payment $350
Student Loans $500
Est Utilities (gas, water, phone, cable, etc.) $500
Total Debt $1,350

Home Affordability Calculation:

Monthly Debt Cap (43% Pre-Tax: $12,500 x .43 = $5,375)   $5,375
Subtract out monthly debt obligations $1,350
Max Monthly Housing Payment   $4,025

This means that Bill has roughly $3,650/month to spend towards his new home. But don't forget, this amount needs to cover not just his mortgage payment but his new real estate taxes and insurance as well.

How do those numbers work out towards the purchase of his $500,000 home? Using a basic mortgage calculator, we've entered Bill's info:

Mortgage Calculator Info:

Home Purchase Price   $500,000
Down Payment   $100,000 (20%)
Est. Interest Rate on 30 year Fixed Rate   4%
Est Monthly Mortgage   $1,909
Estimated Real Estate Taxes:   $1,000/month
Estimated Annual Insurance (Home & Car)   $300/month
Total Monthly Payment   $3,209

Since Bill's total home affordability cap was $4,025/month, Bill can afford this $500,000 home—with a little money to spare every month. But remember: Estimations and actuals vary greatly, depending on things like interest rates and real estate taxes. And just because you have $4,025 to spend doesn't mean you have to spend it all. When it comes to financial planning, you can rarely go wrong by spending a little less.

Get your free credit score before you talk to a lender.

People with higher credit scores can often qualify for lower interest rates—and that can save you serious dollars over time. You'll find sources for your free credit score here.

Start your search with numbers you can count on.

If you want to spend more time looking at ranches, colonials and capes—and less time crunching numbers—take two easy steps:

  1. Try two handy calculators from Zillow: the mortgage calculator and the affordability calculator. Get a rough estimate your mortgage payment, including taxes and insurance. Then see approximately how much you can afford.
  2. Visit a local Webster banking center to speak with a mortgage specialist. Bring your goals for a new home and your questions about financing. A Webster mortgage specialist will listen to your unique situation and help you get the home you want with financing you can comfortably live with.

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