Buying and owning real estate usually involves having a mortgage loan. If you're contemplating becoming another happy homeowner, you should have an idea what mortgage lenders look for as a percentage of your compensation. Along with acting as a major qualification component, statistics prove that spending this percentage -- or less -- for your mortgage payment predicts your success at meeting your loan obligations.
Standard Percentage of Income for Mortgage Payment
Classic mortgage qualification rules target 28 percent (or less) of your monthly salary for your mortgage payment. However, this benchmark is not used in a vacuum. Another percentage calculation is used in conjunction with this test. This first benchmark is called your "housing ratio." Mortgage lenders also have a standard benchmark called your "total debt ratio." This debt-to-income ration should not exceed 36 percent after adding the payment for your projected new mortgage plus all of your other debt, including credit cards, installment loans, and any other payments.
What Constitutes a Mortgage Payment?
Most mortgage payments have four components. Some mortgage loans involve five or six components. Almost all mortgage payments include principal, interest, taxes, and insurance, or PITI. Taxes are calculated by taking the yearly real estate tax liability as recorded by the local community and dividing this amount by 12. The same is true for homeowners insurance. Your lender divides the cost of the annual policy by 12. If your you hold less than 20 percent equity in your home, another component, private mortgage insurance (PMI) is in your payment. If you have an FHA mortgage, you'll have a similar premium in your mortgage payment. Finally, if you buy a condominium, the monthly fee becomes part of your payment.
Income Used for Calculations
Lenders use your gross monthly income to make the housing ratio calculation, not just your salary. Gross income includes your total salary, not the amount you receive after payroll taxes or other deductions are removed. If you have any other income from investments, savings, alimony, child support, fees, royalties, or other regular sources, these amounts can be used. They must be consistent, regular, and long-term. For example, the income from one extra project, like designing a website for someone, cannot be used unless you can prove that there will be more similar projects in the coming months and years.
Allowable Deviations From Benchmark Percentages
Some situations may allow you to exceed standard percentages and still get the mortgage you want. For example, if your housing ratio is 31 percent, above the 28 percent standard, but you have little other debt and your total ratio still equals 36 percent, you may meet the total debt ratio standard. Most lenders will allow you to exceed the mortgage ratio standard if you keep other debt low. The rationale is that spending a bit more for a mortgage is better than having a huge auto loan or high credit card balances.
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- Federal Guidelines on Debt-to-Income Ratio for Mortgage