Finding an affordable mortgage is yet another step in the homebuying process. After you answer the age-old question of “What price house can I afford?” you can begin to consider your mortgage options.
A mortgage is a loan that you can use to finance the cost of a home. Most buyers do not have the funds readily available to buy a house outright, so they finance the cost into easy-to-manage monthly payments. Most mortgages are issued in 15 or 30-year loan terms.
Mortgage rates vary depending on several factors, such as the price of the home, your financial situation, the lender and the area in which you live. They also vary based on the type of mortgage you choose.
There are plenty of affordable mortgage options you can choose from as you search for a home to purchase. It’s important to explore all your options before signing on the dotted line. It’s the best way to ensure you are making the best financial decision for yourself and your family.
Calculating mortgage affordability is one way to start exploring all your financing options. This is the process of determining how much you can spend per month on your mortgage bill. While each lender may have different criteria when it comes to affordability, there are a few standard measures you can use to estimate your financial abilities.
A standard rule of thumb for calculating mortgage affordability is to use your debt-to-income ratio or DTI. This is a comparison of how much you pay in debt versus how much income you earn.
Most lenders recommend spending no more than 28% of your monthly income on your mortgage, and no more than 36% of your monthly income on debt in general. To find your DTI, simply add up all your sources of debt (excluding any housing or living costs). Then, add up all the sources of income you earn each month. Divide your debt by your income to arrive at your DTI, which is expressed as a percentage.
For example, if your monthly income is $4,500 per month and you pay $1,000 in debt payments (such as credit card bills, car payments and student loans), your DTI is roughly 22%. This means that after paying your monthly debt, you have $3,500 left to spend on housing-related costs, including a mortgage.
Calculating mortgage payment estimates is a good way to ensure you do not overspend on a home. Sometimes, mortgage lenders will preapprove you for a large loan, higher than what you expected. Before searching for homes that fall within this preapproval amount, you can use the DTI rule to calculate your expected payment to determine for yourself if it is doable.
So, if you are asking yourself, “what mortgage can I afford?” there are a few things to consider that can help you determine your budget.
Mortgage lenders often crunch numbers into three distinct categories of home affordability. These are:
An affordable mortgage is one that fits into your current financial situation. You may keep or cut your spending habits just a bit and still afford to make your mortgage payments in this category. Most lenders consider a DTI of 34% or less a good measure of an “affordable” home price range.
If your DTI is between 35 and 41%, the price of your prospective home would be placed in the “stretch” category. This means that you would need to make several financial changes in order to make your mortgage payments each month.
The “aggressive” category includes home prices that increase your DTI to 42% or higher. To afford a home in this category, you would significantly decrease your savings and likely need to make major financial changes just to pay your mortgage bills.
Finding a cheap mortgage rate is another way to ensure you are using the most affordable financing option. Mortgage rates refer to the rates of interest charged by a lender in exchange for providing money to purchase a house.
Mortgage interest rates vary depending on a few factors, including:
· The borrower’s credit score. The higher the borrower’s credit score, the less of a risk the lender is taking to lend money. Higher scores indicate the borrower has a history of on-time payments.
· The lender. Different lenders may have different criteria for determining interest.
· The housing market. Rates fluctuate daily based on changes in the economy as well as supply and demand of housing.
Mortgage rates also vary depending on the type of mortgage you get. The most common loan terms for mortgages are 15 and 30-year mortgages; a 15-year mortgage is designed to be paid off in 15 years, while a 30-year mortgage is intended to be paid off in 30 years.
30-year mortgage rates tend to be higher because they are considered to be riskier than 15-year mortgages. The loan term is longer for 30-year mortgages, which means that the lender must spend more time collecting dues. The borrower has more time to default on this type of loan, which increases the risk of foreclosure.
Average mortgage interest rates in 2021 are the lowest they have been in decades. Currently, 30 year mortgage rates range between 3 and 4%, while rates for 15-year mortgages can be as low as 2.33%.
In some cases, it may be wise to work on improving your financial situation before you initiate the purchase process. You have the power to make positive financial changes that can significantly improve your chances of getting an affordable financing offer.
For example, you may consider working on improving your credit score for several months before you get pre approved. The best mortgage rates are offered to borrowers with scores of 640 or higher. The higher your credit score, the more likely it is for a lender to offer a low rate.
You may also find affordable mortgage options after saving up enough money for a better down payment. The higher your down payment, the less money you finance with a loan. Most conventional loans require a 20% down payment, though you may be able to secure an FHA loan with a down payment of 3.5%.