A quick calculation
Let’s assume your family has an annual income of $75,000. Using a simple calculation of $75,000 (0.31), you could afford $23,250 in mortgage payments annually. Dividing this by 12 gives you room for a $1,937.50 monthly mortgage payment. Keep in mind this amount must cover principal and interest, as well as taxes and hazard insurance (otherwise known as escrow).
Gross income and down payment
Your gross income helps set the meter on how much you can afford to pay monthly toward your mortgage. The amount you have for a down payment is a key factor in determining what that monthly payment will look like. For instance, if you decide to go with an FHA loan and pay the minimum down payment of 3.5%, you will pay more toward your mortgage monthly than if you put down 5% or 10%.
Your debt-to-income ratio is how most lenders consider the space you have for mortgage payments. The debt in this ratio is any “rolling” monthly debt that takes away from your disposable income — including any financed items requiring monthly payments. A couple of examples here include credit cards, car payments and student loans. Debt-to-income does not include things like gas, electricity, cable and car insurance.
Lenders publish mortgage rates daily. Lenders determine rates based on market conditions and loan program (VA, FHA, Conventional). The lower the interest rate and APR, the lower your monthly principal and interest payments.
The state/county/city you live in determines the property tax rate. This rate, along with the home’s value, determines the amount you pay in annual property taxes. The higher taxes are on a home, the less room there is for principal and interest in your monthly mortgage payment.
Hazard insurance varies depending on the amount of coverage required for the home and agency originating the policy. It can also vary depending on where the home is located. If you purchase a home in a flood zone, for instance, you can expect to pay money toward a flood insurance policy. Like taxes, the amount required for hazard insurance reduces the room in your monthly payment available for principal and interest.
Taking the right loan amount
Even if a lender pre-qualifies you for a loan of $300,000, it does not mean you should take out the full $300,000. Life is unpredictable, and the income you have right now may change in the future. A situation in which you find yourself “house poor” is not desirable, and it is important to remember that it is easier to pay a smaller mortgage should your income decrease.