Mortgage Affordability Calculation – The First Step for Home Buyers
Almost all home buyers begin with the same question: How Much Home Can I Afford? Only your lender can give you a definitive answer, but Nick Richardson at JMJ Mortgage has provided a simple formula to get you started. Use the 43% Rule for a quick mortgage affordability calculation.
You can also use my Mortgage Approval Estimate Worksheet to help you determine how much home you can buy.
Lenders Approve a Total Monthly Housing Payment
Lenders approve a Total Monthly Housing Payment amount, instead of a price range.
The Total Monthly Housing Payment includes:
- Principal and Interest on your mortgage
- Property Taxes
- Homeowner’s Insurance
- Mortgage Insurance, if applicable
- HOA Fees, if applicable
- Mello-Roos or Community Facilities District (CFD) Fees, if applicable
Fees Reduce Buying Power
Your buying power depends on whether or not you have to pay for mortgage insurance, HOA fees, and/or Mello-Roos fees. A general rule of thumb is that for every $500 of monthly fees, your price range, or buying power, goes down by $100,000. You can use my Monthly Housing Costs Worksheet to calculate a property’s Total Monthly Housing Payment.
Here’s how to use the 43% Rule, along with an example of how to calculate your mortgage affordability calculation.
Mortgage Affordability Calculation – The 43% Rule
Not all loan programs use the 43% Rule. Depending on your situation, you might be able to qualify for a higher Total Monthly Housing Payment. Before you’re ready to talk to a lender, this is a good place to start. You can download my Mortgage Approval Estimate Worksheet to calculate your mortgage affordability calculation.
Here’s the formula:
Gross Monthly Income x 43% – Debt Payments = Total Allowable Housing Payment
Step One
Your gross monthly income is easy to calculate – take your annual gross income and divide by 12. Multiply that number by 43%.
Step Two
Subtract your monthly debt payments, which may include:
- Car Payments
- Student Loan
- Credit Cards
- Other Lines of Credit
Some non-debt payments are also included:
- Child support, alimony
- Business expenses (2106 expenses on your Schedule A)
Now you have an estimated Total Allowable Housing Payment. Your Total Allowable Housing Payment includes:
- Principal and Interest on your mortgage
- Property Taxes
- Homeowner’s Insurance
- Mortgage Insurance, if applicable
- HOA Fees, if applicable
- Mello-Roos or Community Facilities District (CFD) Fees, if applicable
Mortgage Interest Rates
Here are current interest rates to help you estimate your Principal and Interest payment. Keep in mind that a 1% rise in rates can cut 10% from your purchasing power. For example, with a 4% interest rate on a 30-year mortgage, the principal and interest on a $400,000 loan is $1,910. If rates rise to 5%, you can afford less home: a $360,000 loan will have a $1,933 principal and interest payment.
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Mortgage Affordability Calculation – Example
Here’s an example of the 43% Rule used to make a mortgage affordability calculation. Remember, only your lender can give you an accurate number. In this example, a borrower with a $120,000 yearly salary and $1,300 in monthly debt payments qualifies for a Total Monthly Housing Payment of $3,000.
Borrower earns $120,000 yearly salary – Monthly Gross Income is $120,000, divided by 12 = $10,000
Multiply $10,000 by 43% = $4,300
Subtract $1,300 monthly debt payments
- Auto Loan $500
- Credit Cards $200
- Student Loans $200
- Other Lines of Credit $400
$4,300 minus $1,300 = $3,000 Total Monthly Housing Payment
The Bottom Line
The Rule of 43% is helpful when you’re thinking about buying a home, but not quite ready to talk to a loan officer. You can download my Mortgage Approval Estimate Worksheet to get an idea of how much you can qualify for.
When you’re ready to buy a home, consult your lender right away to find out your exact price range. Your real estate agent will need to know your price range in order to begin your home search. Read more about my Home Buyer Services. You can also read about conventional home loans, FHA loans, and VA loans.
Read my articles about How to Choose a Lender and How to Get Mortgage Preapproval. You can also read about the Cost to Buy a House and the Cost to Own a House.
In 2015, the Consumer Financial Protection Bureau released a new toolkit to guide consumers through the process of shopping for a mortgage and buying a home. The Home Loan Toolkit can help you plan your purchase.
Effective 2020, there is a no-cost online home buyer workshop. This new tutorial is a comprehensive homeownership education course. CreditSmart® Homebuyer U offers six modules to promote education, homebuyer preparedness, and financial management.
As always, contact me with any questions. Good luck!
I couldn’t have written this article without the expert advice of Nick Richardson:
Nick Richardson is a mortgage banker with EZ Fundings in San Diego, California, NMLS #966361. He can help you finance or refinance properties located in California. Nick can answer all of your questions about mortgage programs, with no hassle, no obligation. Contact him at 760-402-6962 or e-mail nick@ezfundings.com.
