A:
Borrowers often begin their home search with only the foggiest idea about how much they can afford to pay, which can result in wasted time and frustration. They should know approximately how much they can afford before they start to shop.
The amount you can spend on a house depends on your income, the amount of cash you can allocate to the transaction, and the mortgage terms available in the market at the time you are shopping. These include interest rates, points, term, down payment requirements, and the maximum allowable ratio of housing expense to income. In addition, affordability may be affected by your existing indebtedness if this is higher than the indebtedness that lenders are willing to accept, and by closing costs which vary from one part of the country to another.
The table below provides some ballpark estimates of how much house you can afford with a 7.5% 2 point mortgage for 30-years. For each of 7 sale prices, the table shows the total cash required to meet down payment requirements and settlement costs, the total monthly housing expense, the minimum income required to cover housing expenses, and the maximum amount of debt service allowable on the minimum income.
To afford a $400,000 house, for example, you need about $59,200 in cash, which assumes a 10% down payment. Your monthly income should be at least $11,284, and (if this is your income) your monthly payments on existing debt should not exceed $905.
These numbers were calculated from the Housing Affordability calculator. They are estimates because the assumptions used may not correspond exactly to any individual situation. However, you can use the calculator and change any of the assumptions as you please. For further information on how lenders qualify you for a loan, read Qualifying For a Mortgage.
The table assumes that you push your buying power to the limit, which may or may not be what you want to do. In particular, the table assumes that your down payment will be the lowest lenders are willing to accept, which obliges you to purchase mortgage insurance, which increases your borrowing cost. Hence, it may not be prudent to push your borrowing power to the limit. For a discussion of how much you should invest in a house, as opposed to the maximum amount you can afford, read How Much House Should You Buy?
| How Much House Can You Afford With a 7%/2 Point/30-Year Mortgage?
|
| To Spend This Amount on a House…
|
You Need At Least This
Gross Monthly Income…
|
To Cover
This Monthly Housing Expense…
|
Other
Monthly Debt Payments Should Not Exceed…
|
And You
Need at Least This Much Cash…
|
For the
Down Payment Lenders Are Likely to Require…
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And the
Closing Costs
|
|
$400,000
|
$11,290
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$3,160
|
$903
|
$59,200
|
$40,000
|
$19,200
|
|
350,000
|
10,260
|
2,871
|
820
|
51,800
|
35,000
|
16,800
|
| 300,000
|
8,790
|
2,461
|
703
|
44,400
|
30,000
|
14,400
|
|
250,000
|
7,330
|
2,051
|
586
|
37,000
|
25,000
|
12,000
|
|
200,000
|
6,280
|
1756
|
502
|
19,800
|
10,000
|
9,800
|
|
150,000
|
4,710
|
1317
|
376
|
14,850
|
7,500
|
7,359
|
|
100,000
|
3,230
|
903
|
258
|
7,940
|
3,000
|
4,940
|
Notes: Minimum monthly income is based on a ratio of monthly housing expense to income of 28%. Closing costs excluding points are assumed to total 3% of the sale price. The maximum monthly debt service payment is assumed to be 8% of minimum monthly income. Monthly housing expense includes principal and interest, mortgage insurance, taxes and hazard insurance. Taxes and hazard insurance are assumed to be 1.825% of sale price. The down payment requirement is assumed to be 10% on prices of $250,000-400,000, 5% on $150,000-200,000, and 3% on $100,000. Mortgage insurance premium rates are .9% with 3% down,.78% with 5% down, and .52% with 10% down.
December 10, 1999
Jack Guttentag is Professor of Finance Emeritus
at the Wharton School of the University of Pennsylvania.
Visit the Mortgage Professor's
web site
for more answers to commonly asked questions.
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