Before you embark on your home search, your first consideration should be how much you can afford to pay. You need to establish what your monthly payments should be and that means understanding how your usable income is calculated.
The starting point of any income calculation begins with gross, or before-tax, income. Regardless of what you take home each month, your lender will always want to know your salary before any withholdings.
After your gross income is calculated, monthly debt is subtracted. This debt includes rent or mortgage payments, car payments, credit card debt, student loans and other kinds of loans. Many people ask if debt includes other monthly expenses such as utility bills or gas for the car, and the answer is no – these are not included in your ratios.
While your mortgage professional will give you the exact numbers you will use to qualify, a good rule of thumb is to keep your payments between 40% and 45% of your gross income, less expenses.
For example, if your gross income is $3,000 a month and you have car payments and credit card balances for a total debt of $500 a month, your usable income is $3,000 minus $500, or $2,500 a month. Taking $2,500 x 40% and 45%, you arrive at a total mortgage payment between $1,000 and $1,125 per month.
If you keep these figures front and center during your home search, you won’t fall for a home that’s beyond your means.