This is the question that you need to answer to yourself before you go shopping for a house or a mortgage. You would be surprised to know how many customers don't do this and start shopping for a house without knowing if they can even afford it. After the size of your downpayment, and the loan type that you want to obtain, the main things you need to remember is "debt-to-income" ratio and the two magical numbers 28 and 36.
Debt-to-income (DTI) ratio is the qualifying ratio that the lender will look at to determine if you can afford the house payments or not. The lenders want to see the total monthly housing debt (principle, interest, insurance and taxes payments, i.e. PITI) not to exceed 28% of the borrowers’ gross income. This is also known as the "front-end" ratio.
The "back-end" ratio of 36% puts an upper limit on the total debt the customer may have to qualify (PITI plus consumer debt payable over the next at least 12 months) divided by the total gross income of the borrowers. The lenders want to make sure that your mortgage doesn’t break your family financially, especially if you have a lot of consumer debts, such as huge car and student loans. After Federal Housing Administration, whose loans are backed by the government, raised the plank for the back-end ratio from 36 to 42%, many private lenders followed suit and raised their back-end ratio too.
On the income side, the lenders look at all income that you can reasonably prove, such as salaries, wages, overtime, bonuses, commissions, child support, alimony, monthly allowance from parents, rental income etc, as long as you can demonstrate that this income can be expected for the next 12 months.
The same 12-months rule applies to the expenses as well: the expenses need to be payable in the 12 months or longer to be included into the debt ratio. For example, if your car loan has only 11 months left, it doesn’t need to be included in your debt calculations. The same thing with the charge cards that you use for your company expenses and then pay them off every month, but you have to show the history of these monthly payoffs with the credit card statements.
Another point to consider: if you get too much money back from the IRS every year because of your mortgage interest deductions, it is time to bring up the issue with your accountant at work. Your accountant can reduce your withholdings by an appropriate amount to account for the mortgage deductions.
No matter what loan you opt for, you always need to remember that regardless of the DTI ratio, the mortgage loan should not be an impossible financial or psychological burden. Mortgage loan is an important financial commitment, and before you make this commitment to the lender, you need to make a serious commitment to yourself and your family to improve your financial planning skills and leave your life debt free.
Alex Lisnevsky
Mercury Capital Group Inc.
(760) 757-5070