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How much house can I qualify for with my salary?

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I am trying to figure out how much house I can qualify for with my current salary of around $75,000 per year. I have been reading up on the different ways to calculate this, but everyone says something different. I guess what I really need to know is how do mortgage lenders determine how much I qualify for? Do they have a certain formula they use, or something like that? Any help would be much appreciated at this point.
asked 2 days ago in Mortgage Loans by anonymous

1 Answer

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There are two numbers you should be concerned with. The first is your own monthly housing budget, which you should determine for yourself (without a lender's involvement). The second number is the mortgage amount you can qualify for, given your current income and debt situation. The first, and most important, number comes from you. The second number comes from the lender. It's important to make this distinction, because it's primarily your responsibility to buy a house you can actually afford.

The word "qualify" is the key here. You've asked how much house you can qualify for, which tells me you're wondering about the second number -- the one that comes from the lender. So the question now becomes: "How much of a mortgage loan can I qualify for, based on my income?" Here's how lenders go about it...

The first concept you need to understand is the debt-to-income ratio, or DTI for short. As you might guess, this is a numerical comparison between the amount of money you earn (income) and the amount you spend each month on recurring expenses (debt). It is usually written as a percentage. A debt-to-income ratio of 33% shows that about one-third of my income is going toward my monthly debts (credit cards, car payment, etc.).

Stick with me now. This directly relates to your question: How much house can I qualify for? But first, a bit more jargon...

There are two DTI ratios. The front-end DTI ratio is also known as the housing ratio, because it only considers your housing-related debts (mortgage payment, property taxes, etc.). The back-end DTI ratio is referred to as your total ratio because it considers all of your monthly recurring debts (mortgage, credit cards, personal loans, etc.). By the way, lenders typically use your gross monthly income when calculating these numbers, as opposed to your net.

How much house can you qualify for? Let's consider the current trend with DTI limits. These days, many lenders are limiting borrowers to having a back-end (total) debt-to-income ratio of greater than 43%. That's because the Qualified Mortgage rule, which takes effect on January 10, 2014, limits borrowers to 43% DTI. This rule is not set in stone. It's just an industry-wide trend you should know about.

So let's assume a lender does limit you to 43% on the back end. That means your total monthly debt cost should not exceed 43% of your gross monthly income. You can do the math from here, to determine how much house you might qualify for under this kind of standard.

For math purposes, I'll assume that $75,000 annual salary is your gross income. That gives you a gross monthly income of $6,250 (dividing by 12). Let's say you're looking for homes in the $250,000 price range. If I use a mortgage calculator and plug in the current average mortgage rate of 4.16% for a 30-year loan, the monthly payments would come out to around $1,281. This would allow you to calculate your front-end DTI ratio. But we want to know the back-end, or total, debt ratio. So you have to add your other recurring debts on top of this estimated monthly mortgage payment. Remember, we are trying to determine how much house you can qualify for, from the lender's perspective.

Let's say your car payment, credit card payment and other monthlies add up to around $350. When we add this to the estimated mortgage payment for the 250K price range, we get $1,631 (1281 + 350). Your gross monthly income is $6,250. That means your total or back-end DTI ratio is 26%. You are using just over one-fourth of your gross monthly income on your recurring monthly debts. That's pretty good, actually. You're nowhere near the 43% limit I mentioned earlier.

Yes, this is an oversimplification. There's a lot I don't know. You might be looking at houses much higher than the $250,000 figure I used. You might have more or less debt than the example I used. That's beside the point. I just wanted to show you how lenders evaluate your debt versus income situation when qualifying you for a home loan. This is a good place to start trying to figure out how much house you qualify for. Good luck with it.
answered 2 days ago by qmbrandon99 (340 points)