When applying for a home loan, personal finances will be your first concern. Your income
versus your debt and the formula below will determine the amount a lender will allow you to borrow.
1. The first step is to determine your gross monthly income. This includes any regular and recurring income that can be documented. If you cannot document the income, or if it
does not appear on your tax return, then you probably cannot use it to qualify for a loan. You
can, however, use unearned income, such as alimony or lottery payoffs. If you own
incomeproducing assets including real estate and stocks, that income can be used.
2. Next, determine your total monthly debt. This includes credit cards, installment or car loans, alimony or child support, or any continuing monthly obligation. For credit cards, use
the minimum monthly payment for calculation purposes. For installment loans, use the
current monthly payment. Installment debt that is scheduled to be paid in full within the next
ten months does not have to be considered. This total is sometimes referred to as “monthly
debt service.” Lenders will not allow you to borrow more than your ability to repay all of your
obligations, especially your mortgage.
3. Your monthly housing expense including taxes and insurance should not exceed
around 28% of your gross monthly income. If you do not know exact figures, tax and insurance expenses can be estimated at 15% of your monthly housing payment. The
remaining 85% is assigned as interest and principal.
4. In addition, your monthly housing expense plus your total monthly debt service
cannot exceed 36% of your gross monthly income. If you are not within this parameter, you may not fit the lender’s underwriting guidelines, and the lender may not
approve your application. Each individual borrower has a unique situation, and different lenders
may be more or less flexible than the 28% and 36% suggested guidelines. If you are able to
purchase a home by borrowing less than 80% of the home’s value – by making a large cash down
payment, for example – then these guidelines may become less critical. Many different loan
programs are available, all with different guidelines, so some may be more applicable to your
financial situation. Your financial professional or loan officer can outline a program that best fits
your needs, helping you to get the home of your dreams.
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