How Much of a Loan Can I Afford for a New Home?
Owning a home is central to the American dream. Yet a crucial part of enjoying your home is being able to afford the mortgage payments. Lenders use various criteria to determine how much to give you for a loan, namely your income, debts and how the two compare.
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Income
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Your monthly income is the first part of the equation lenders use to determine the amount of your loan. They total all your income before taxes, but not all of this income counts as income in the final tally. For example, most lenders don't consider college scholarship money as income since the income is unreliable as far as the lender is concerned. The reasoning is that, though you might be a student currently using your scholarship money to pay rent, you may lose the scholarship at any time due to your academic standing or upon graduation, and you would be unable to repay the loan. Still, include all sources of income on your loan application to let the lender decide its validity.
Debts
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The amount of money you owe to creditors is, in some ways, more important than your income. You might make $7,500 every month, for example, but if your bills total $6,075, you only have $1,425 left over for living expenses such as groceries, gas money and mortgage payments. Monthly debts to include on your loan application include vehicle loans, school loans, current home loans and alimony payments.
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Ratio
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Lenders don't simply subtract your debts from your income to find an amount for your home loan. Instead, they use a ratio to assess whether or not you have too much debt relative to your income. Most lenders multiply your income by .36 and subtract your monthly debts from the product, since debt should ideally tie up no more than 36 percent of your income. The greater the difference between these two figures, the higher your chances of getting a loan with a low interest rate as long as the difference is in the positive.
Other Factors
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A lender may or may not consider whether your monthly expenses (besides your bills) amount to more than 28 percent of your income. As with your debts, the lower your monthly expenses are the more chance you have of getting a favorable loan. Your credit score can affect your chances since credit report show your history of repaying creditors. A history of missed or late payments can negatively affect your loan while a credit score of 700 or higher---typically the result of timely repayment---can help.
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