How-to Monday: Affordable mortgages
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The mortgage mess hanging over the country offers many useful (if painful) lessons. First on the list: Don't borrow more than you can really afford to pay back.
Closely related to that is Lesson #2: Don't blindly rely on industry professionals to tell you what that amount is. Get down and dirty with the math yourself.
Here's a look at the debt-to-income levels you'll need to qualify for a loan nowadays, and some thoughts about how to get beyond that to true affordability.
Lenders look at a measurement they call your debt-to-income ratio. In plainer English, that means they'll be comparing your monthly before-tax income to your proposed mortgage payment (principal, interest, insurance and taxes) PLUS any other installment or revolving debt (car loans, boat loans, student loans, personal loans, credit-card minimum payments, etc.). Thanks to Ryan W. James, senior mortgage banker with First Horizon Home Loans, for that plainer English definition.
James, who's based in Timonium, said lenders will in most cases allow a debt-to-income ratio of up to 50 percent. If you make $5,000 a month ($60,000 a year), your monthly debt can't top $2,500.
"If you had a $400 car payment and a $200 student loan and a $60 minimum payment on your credit cards, we know your maximum mortgage payment is only going to be about $1,840," James said.
(U.S. News & World Report has a debt-to-income calculator HERE, if you'd like to take one for a spin.)
In the go-go housing boom days, it wasn't too hard to push beyond that 50 percent limit, James said. Good credit? Sure, go ahead. But he says it's much tougher now.
Though credit availability has tightened a lot in the last year, with loan products disappearing everywhere you look and lenders requiring better credit scores, today's debt-to-income limits are still high by historical standards. The traditional rule of thumb was 36 percent, says Christopher Cruise, a mortgage trainer in Silver Spring and a board member of the National Association of Responsible Loan Officers.
Both Cruise and James recommend you think carefully about how much mortgage debt you'll be comfortable taking on.
James says he does a budget analysis with clients that gets beyond the ratios to the nitty gritty. What's your take-home pay after taxes, retirement plan contributions and the like? How much are you spending a month in addition to debt payments -- the cost of meals, entertainment, gas, utilities, etc.? How much do you want to be able to save once everything, including your mortgage, is paid up each month?
Cruise says that Baltimore-Washington housing prices, even with recent declines, remain high enough that buyers may feel forced to choose between the house they want and the lifestyle they're used to. His advice: Look in less-expensive neighborhoods you might not have considered, cut back on your non-mortgage spending or keep renting while you whip your finances into shape.
"Have some willpower, for God's sake," Cruise said. "Buying a home now and getting foreclosed on in a year or two is not ideal."