3 Steps to Figure Out How Much Mortgage You Can Afford

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Generally, the amount a lender will allow you to borrow for a mortgage is the amount at which the monthly loan payments (including principal, interest, property taxes, and homeowners insurance) equal no more than 28% of your gross monthly income. If you have excellent credit, some lenders may allow room for leniency. Additionally, your total debt payments (including the mortgage payment and all other debt) typically cannot exceed 36% of your monthly income.

While many borrowers use this as a guideline for the mortgage they can afford, it is really meant to be a lending guideline for how much you can borrow. However, the amount you should borrow is not necessarily the same as the amount you can borrow.

Follow this three-step process to help you determine how much you should spend on a home.

1. Prepare a Budget

In order to determine the mortgage payment you can afford, you need to first prepare a budget. It is critical to include the proper short-term savings and long-term investing in your budget before you establish the amount to allocate toward a mortgage payment. While owning a home can help build your net worth, it is an extremely illiquid asset that is not easily converted to cash. You should make certain that you have enough in short-term savings to pay your mortgage for at least six months in the event of an unforeseen financial setback. Also, make certain not to reduce your long-term savings goals for things such as retirement or your children’s future college education expenses.

2. Account for Increased Expenses

The good news is many of your budgeted items will not change with the purchase of a new home. For example, dining, food, clothing, and travel expenses will likely remain as they were before the move. However, some items like homeowners insurance, lawn care, pool maintenance, HOA dues, and utilities may increase when you purchase a residence. Property taxes will also likely increase, so just plugging in the amount the current owner pays may result in errors. If your purchase price is higher than the value listed on the tax rolls (as is commonly the case), you should recalculate the property tax based on the purchase price you will pay. It may take up to a year for the taxing authority to update the tax rolls, but eventually the purchase price will be used to determine your property tax due.

3. Determine Your Optimal Mortgage Payment

Once you have prepared a new budget, it will become apparent how much of a mortgage payment you can afford. If the amount you can afford is less than the amount you want to borrow, it may be necessary to adjust other budget items. Focus on reducing discretionary (non-essential) expenses. For example, you might consider reducing the amount you spend on vacations, entertainment, dining out, hobbies, and even your monthly television subscription so you can allocate more toward your new home. It is also a good idea to shop around for your auto insurance policy at the same time you are getting new homeowner insurance. Bundling these two policies with the same insurance company can often reduce your monthly premium by as much as 20%. All of these little changes to your budget can add up to a tidy sum that can help you purchase the home of your dreams.

Buying a home is no small feat, and there are many financial ins and outs to navigate as you prepare for this step in your life. As parting tips, don’t forget that you’ll need cash for your down payment (which will also influence the amount of your loan), and it’s helpful for you to check your credit report before speaking to a lender so you understand whether your lender will view you as a high-risk or low-risk borrower. Planning is key, and the more thought and energy you put into the process ahead of time, the more smoothly the home-buying process will go.

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The post 3 Steps to Figure Out How Much Mortgage You Can Afford appeared first on Credit.com.

Half of Future Homebuyers Waiting to Improve Credit Before Buying

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A lot of potential homebuyers — especially first-time homebuyers — are holding off on taking the mortgage plunge in hopes they can get a better rate once they improve their credit scores.

That’s the finding of a new Experian survey about homebuying and credit, which found that 34% of future buyers say their credit score might hurt their ability to purchase a home and 45% have delayed a purchase to improve their credit score.

“Your credit profile is one of the factors that can have a substantial impact on securing a home loan because it is used by lenders as an indicator of your financial health,” said Rod Griffin, director of Public Education at Experian in a press release. “Consumers planning to purchase a home should check their credit scores and reports to see where they stand. From there they can develop a financial plan so they are in the best place to try to secure the loan they desire.”

According to Experian, low credit scores have led 1-in-5 to likely opt out of the loan process or purchasing a home at all for the next five to 10 years.

On the upside, the Experian research also found almost 70% of survey respondents are paying their bills on time while 60% are paying off debt. Additionally, 28% of future homebuyers are keeping balances low on credit cards while 15% are taking steps to protect their credit information from identity theft and fraud.

The online survey was conducted by Edelman Berland for Experian from Feb. 19–24, 2016, among 500 adults in the U.S. who purchased a home within the past year or plan to purchase one in the next year.

Other key findings include:

  • 35% of future buyers said they do not know what steps to take to qualify for a larger loan.
  • 29% of consumers surveyed would purchase a more expensive home if they had better credit and could qualify for a larger loan.
  • 3-in-4 future buyers are not pre-approved for a home loan.

If buying a new home is in your future plans, you should be checking your credit regularly, not only so you can identify areas for improvement but also to make sure everything on your credit reports is accurate (here’s how to get your free annual credit reports from the three major credit reporting agencies). You can generally improve your credit score by paying down high credit card balances, disputing errors on your credit reports and making all loan payments on time. To stay on top of your progress, you can check your credit scores for free every month on Credit.com.

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