No matter how small your income, you might qualify for a mortgage, assuming you have good credit history and low overall debt. The question really is, just how much house can you buy with what your lender will give you? Lenders use a percentage of your income to determine the size of your mortgage, but don’t be tempted to spend it all. MSN Money reporter Liz Pulliam Weston recommends that you take all of your ongoing expenses into account and plan out your financial future before you buy, because “a too-big house payment can, at the very least, leave you with too little money for other goals.”
Lenders look at your gross income and other debt when determining the size of the mortgage you qualify for. Most lenders limit you to 28 percent of your gross income for your annual housing expense, and an additional 8 percent of your gross income for other debt, for a total debt-to-income ratio of 36 percent. Other debt includes any obligation you have with a fixed monthly payment, like a car loan, student loan or credit card. There are exceptions to the rule.
Exceptions to the Rule
The Federal Housing Authority allows your housing expense to total 29 percent of your income for loans backed by them, and other debt may take up an additional 12 percent for a total debt-to-income ratio of 41 percent. The Veterans’ Administration allows 41 percent in total debt, with no specific breakdown between housing the other debt.
Your lender considers your principal and interest payments on your mortgage, real estate taxes and homeowner’s insurance -- your total housing expense -- not to exceed 28 percent. If your gross annual income is $100,000, you could spend up to $28,000 per year on housing. If real estate taxes and yearly insurance premiums total $9,000 on your dream home, you might qualify for a 30-year fixed-rate mortgage of roughly $264,000 at 6 percent interest. That monthly payment, less the real estate taxes and insurance, is $1,582.81 monthly or $18,993.76 annually.
Buy Now, Pay Later
Interest-only mortgages have a set period of time at the beginning of the mortgage, usually three, five or seven years, during which you pay back interest only on the loan. At the end of that initial term, the lender recalculates the loan and you begin to make payments that include both interest and principal. Since the initial payments are smaller, the lender might qualify you for a larger mortgage now than you can actually afford. If you expect a large salary increase in the near future or are starting up a business that should become profitable in a few years, an interest-only mortgage may allow you to qualify for a loan now that you can afford later. These loans come at a high risk, however, particularly if your income does not follow your plan. Many people have fallen prey to these loans, causing Bloomberg Businessweek to dub them “nightmare mortgages.”
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- Qualifying Income for a Home Loan