Percentage of Income To Spend on Your Mortgage

Navigating the realm of homeownership often begins with understanding how much of one’s income should be allocated to a mortgage payment. Finding the right balance ensures financial stability while allowing homeowners to live comfortably within their means.

How Much Should I Spend On The Mortgage

Determining how much to spend on a monthly mortgage payment can be a challenging decision. It is crucial to strike a balance between what you qualify for and what you can afford. While it is tempting to take advantage of a higher loan amount, borrowing beyond your means can lead to financial stress, missed payments, and potential default on the loan. It is wise to evaluate your budget and financial goals carefully and choose a mortgage amount that aligns with your long-term financial goals and stability.  Often, what you can afford and what you qualify for can be different. Let’s break down the difference between affordability and qualification.

How Much Can I Afford?

Affordability refers to how much you can comfortably manage in terms of monthly mortgage payments without putting excessive strain on your finances. Affordability takes into account your income, expenses, and financial goals. While you may qualify for a certain loan amount based on your income and creditworthiness, it does not necessarily mean that borrowing the full amount is financially prudent.

To determine what you can afford, consider your monthly income, existing debts, living expenses, savings goals, and other financial commitments. You should have enough funds left after paying the mortgage to cover other essential expenses, build an emergency fund, and save for future goals. Many financial experts often recommend that your monthly housing expenses (including mortgage, taxes, and insurance) should not exceed 28% to 30% of your gross monthly income.

Here is a step-by-step calculation to determine the percentage of income you can allocate towards your mortgage:

1. Calculate your gross monthly income: This is your total income before any taxes or deductions are taken out.
2. Determine your future monthly mortgage payment: If you already know the monthly mortgage amount, use that. If not, you can estimate it using an online mortgage calculator or consult with a mortgage lender.
3. Calculate the percentage: Divide your monthly mortgage payment by your gross monthly income and multiply by 100 to get the percentage.

For example, let’s say your gross monthly income is $5,000, and your monthly mortgage payment is $1,200.

Percentage of Income Spent on Mortgage = (Monthly Mortgage Payment / Gross Monthly Income) * 100

Percentage of Income Spent on Mortgage = ($1,200 / $5,000) * 100 ≈ 24%

In this example, your mortgage payment represents about 24% of your gross monthly income, which falls within the recommended range of 28% to 30%.

Keep in mind that this is a general guideline, and individual financial situations can vary. When budgeting for a home purchase, it is essential to consider other monthly expenses, such as utilities, subscriptions, insurance, and living costs, along with any additional future plans and savings goals.

How Much Do I Qualify For?

Loan qualification is the process by which a lender evaluates your financial information to determine the maximum loan amount they are willing to lend you. Lenders look at factors such as your income, credit score, loan-to-value ratio, employment history, debt-to-income ratio, and the market interest rates. Based on this information, they calculate the amount you qualify for, which represents the maximum loan they are willing to extend to you. The most certain way to find out how much you can qualify for is to contact your mortgage lender and go through the prequalification process.

But if you want a general idea, here are the key steps to estimate how much you might qualify for:

1. Calculate your gross monthly income: This includes your total income before taxes and deductions. If you have a regular salary, this step is relatively straightforward. However, if you have variable income or multiple sources of income, you may need to average your earnings over 24 months.
2. Assess your monthly debts: Consider all your recurring monthly debts, such as credit card payments, car loans, student loans, and any other outstanding debts.
3. Check the current interest rates: Interest rates fluctuate based on market conditions. The current interest rates will impact the loan amount you qualify for, as they determine your monthly mortgage payment.
4. Figure out your future mortgage payment: You can estimate it using an online mortgage calculator or consult with a mortgage lender.
5. Determine your debt-to-income (DTI) ratio: Your DTI ratio is a crucial factor that lenders use to assess your ability to manage monthly payments. It is calculated by dividing your total monthly debt payments (personal debts plus your future mortgage payment) by your gross monthly income and multiplying by 100. Most lenders prefer a DTI ratio below 43%, but it varies by lender and loan type. So as long as you are within that range, you should be able to qualify.

Keep in mind that your credit score plays a significant role in the loan approval process. A higher credit score generally improves your chances of getting approved with a higher DTI and may qualify you for better interest rates.

Again, these calculations can give you a rough idea of the mortgage loan amount you qualify for, but get pre-qualified with a mortgage lender to get a more accurate figure. The pre-qualification process may uncover issues with your financial profile that you need to address prior to looking at homes, and help you make a much more informed decision.

What Are Acceptable Sources of Income for a Mortgage?

Acceptable sources of income refer to the types of earnings that lenders and financial institutions consider as valid and reliable when evaluating your ability to repay loans, mortgages, or other forms of credit. Different lenders might have varying criteria, but generally, the following sources of income are considered acceptable:

• Employment Income: Regular wages or salary from a full-time position is one of the most common and reliable sources of income.
• Self-Employment Income: Income from owning and operating your own business or freelancing can be considered, but lenders might require proof that you have been able to generate income consistently for a certain amount of time.
• Rental Income: If you own property that generates rental income, this can count towards your income. Lenders typically require documentation, such as rental agreements, income tax returns, and proof of consistent payments.
• Retirement Income: Income from retirement accounts like pensions, 401(k)s, IRAs, or Social Security benefits cab be accepted as long as it is predictable and regular.
• Investment Income: Dividends, interest, capital gains, and other earnings from investments like stocks, bonds, and mutual funds can be counted, especially if they are consistent.
• Alimony and Child Support: If you receive alimony or child support payments, these funds might be considered as part of your income. You may need to provide documentation of court-ordered payments.
• Government Assistance: Some forms of government assistance, like disability benefits, unemployment benefits, and veterans’ benefits, can be included as income, although lenders might evaluate their reliability.
• Regular Bonuses or Overtime: If you receive regular bonuses, overtime pay, or commission income, lenders might consider an average over time to gauge consistency.
• Annuity Payments: If you have an annuity that provides regular payments, it can be used as a source of income.
• Part-Time Jobs: Income from part-time jobs can be counted, but lenders might assess whether it is sufficient to cover your obligations.

Lenders often evaluate not just the source of income, but also its consistency, stability, and ability to continue into the future. Documentation is key—expect to provide pay stubs, income tax returns, bank statements, and other relevant paperwork to support your income claims. Most lenders will want to see at least a two-year history of income continuity. Different lenders might have varying criteria and policies, and the acceptability of certain income sources can depend on the type of loan you are applying for.

Can I Get a Cosigner If My Income is Not Enough?

Yes, you can definitely get a cosigner if your income is not sufficient to qualify for a loan or mortgage on your own. A cosigner is someone who agrees to be equally responsible for repaying the loan if you are unable to make the payments.

Here are a few key points to consider when using a cosigner:

1. Cosigner’s Financial Profile: Lenders will assess the cosigner’s income, credit score, employment history, and overall financial stability. The cosigner’s financial strength can help offset certain deficiencies in your own financial qualifications.
2. Shared Responsibility: Both you and the cosigner are equally responsible for repaying the loan. If you miss payments or default, it could negatively impact the cosigner’s credit score and financial standing.
3. Improved Eligibility: A cosigner can help you meet the income requirements that you might not meet on your own. This can increase your chances of loan approval and potentially allow you to borrow a larger amount and qualify you for more favorable interest rates.

Having a cosigner is a significant financial arrangement, and it is important to approach it with careful consideration. If you are considering using a cosigner consult with a financial advisor or mortgage professional who can provide guidance based on your specific circumstances. They can help you understand the implications, responsibilities, and potential benefits of having a cosigner on your loan.

Final Thoughts

Affordability is very distinct from qualification – there might be a significant difference in what you can qualify for vs what you can afford. Mortgage lenders review borrowers’ income and monthly liabilities off the credit report to derive the loan size borrowers qualify for. That figure is often much higher than what a client is comfortable spending. Borrowers are much more aware of their monthly expenses, future plans and savings goals and are the most accurate judges of what they can afford. Prepare a detailed budget of your current and future expenses before deciding how much to spend on a monthly mortgage payment.

Please reach out to me with your questions regarding mortgage loan affordability and qualification types at 312-296-4175 or email me at connect@borislending.com. I lend in all 50 states and I am never too busy for your referrals!!