How Mortgage Much Can You Afford?
By Mark Barnes,
il-odm.org Staff Writer
Many people are misguided into believing that they can afford a much bigger mortgage for their new home than they really can. Sometimes this is because they are told by mortgage brokers or lenders that a particular program will give them a lower payment. Other times it's simply because people do not understand how much they can afford to pay for a mortgage.
You see, there it's not a "hit or miss" thing. There is a very important process involved with deciding how much you should pay for a mortgage or other kind of home loan, such as a home equity line of credit. As much as getting a low interest rate is nice, this can also trick you into believing you can pay more each month and pay more for you home. Often, this is financial suicide.
Consider that you currently pay $1,500 for the principal and interest payment of your mortgage. This might be on a home loan amount of $250,000. Now, as you search for your new home, a mortgage professional may tell you that you can qualify for a very attractive adjustable rate mortgage (ARM) that will allow you to finance a $300,000 home for the same $$1,500 monthly. Many people will jump at this, because they are enamored of that beautiful home, and they can't look down the road to the future expenses, aside from the mortgage.
It's absolutely critical that you consider all factors involved in this purchase. You should start with the affordability calculator, right here at il-odm.org. This will give you a very good idea of what you can afford to pay.
In addition to using the affordability calculator, you should consider the higher expenses that will accompany your new, more expensive, home. For example, there is a good chance that your taxes will increase as much as $200 monthly. Assuming your house is bigger, the utilities will likely be higher each month, too. Be sure, when talking to the realtor or seller, to get a detailed report of the monthly utilities. If your house is 500 square feet or more larger than your previous home, it stands to reason that the gas and electric costs will be 10 to 20 percent per month higher. This could be $100 or higher each month.
Even lawn maintenance and snow removal might be more expensive. Again, if your new home is bigger, these things add to your monthly costs, and they are often overlooked during the excitement of purchasing your dream home, especially when a mortgage broker or lender is telling you that your mortgage payment will not increase.
Finally, if you are considering an interest-only mortgage or a hybrid ARM, in order to keep your monthly payment low, these programs have features that will change over time. With that interest-only loan, you will not be paying the principal balance of the mortgage, and this will slow your gain in equity. Adjustable rate mortgages will eventually change, and this could inflate your monthly expenses dramatically, in some cases.
Once you've calculated all of the new expenses, and you've added up all of your revolving debt and included your new mortgage payment, the ratio of total monthly debt, when compared to your total gross monthly income should not exceed 50 percent. In other words, take the mortgage and all other expenses, total them up, and divide them by your gross monthly income. This will give you a percentage, and it should be 50 percent or less. If you can do this, you will be in a very good place, in terms of your new home purchase and your new mortgage.