Determining the Affordability of a House
First calculate the estimated mortgage payment. Several formulas exist to help determine how much a lender will allow a consumer to borrow. One of the more accurate formulas is a front- and back-end ratio. It states that the buyer can afford as much as 28 percent of his or her gross-monthly income toward the monthly mortgage payment, taxes, and insurance (housing costs). Assuming that the consumer's other debt payments (credit cards, car loans, student loans and so on) are less than or equal to 8 percent of his or her gross-monthly income.
To better understand this formula, assume a gross-family income of $5,000 a month. The front-end ratio or maximum monthly mortgage payment is (28 percent of $5,000) $1,400. The back-end ratio is (8 percent of $5,000) $400. Therefore, the buyer can afford a $1,400.00 monthly housing cost as long as monthly debt payments are less than or equal to $400. If debt payments exceed the back-end ratio, it will reduce the monthly housing cost dollar for dollar. For example, if debt payments are $500, the maximum housing cost payment a person could afford would be reduced to $1,300.
Down Payment and Closing Costs
To assure you are purchasing a home within the confines of your budget, you must consider closing costs as well. These terms refer to how much money the buyer will have to pay out of pocket and up-front to purchase a home. Down payment is simple; it refers to the amount of money the buyers needs to invest at closing toward the price of the home. Most lenders request a down payment of at least 10-20 percent of the cost. For first-time home buyers, this may be difficult to achieve. Several programs are available and relatively easy to qualify for that allow buyers to make down payments of as little as 3 percent of the price of the home.
Closing costs vary from state-to-state, city-to-city and even from home-to-home. Closing costs can include attorney fees, home inspection costs, title search fees, bank fees, termite inspection fees and radon inspection fees, to name a few. The mortgage lender requires some of these services and others are legally necessary depending on where the buyer lives. For the sake of estimating, closing costs can range from 1 to 5 percent or more of the value of the home.
While up-front costs are more than one would pay for renting, homeownership is most often a sound and rewarding investment.
Consider the Maintenance Costs
Whether buying a new or older home, it is good to know what your ongoing maintenance costs will be. The maintenance costs can range from 1.5% to 4% of the home's original price. This does not necessarily apply to homes over a million dollars, however, it is a reasonable average for many home buyers, especially on starter homes. If money is tight... consider a home warranty to protect you from unplanned costly repairs. Home warranties will cost between $300-$400 and cover many major home systems and built-in appliances for one full year after close. A home warranty will either pay to repair or replace a covered item and the homeowner pays a minimal deductible rather than the full cost of repairs. Our agents can answer any questions you may have about obtaining a home warranty.