How Do I Know How Much Home I Can Afford?

This BLOG On How Do I Know How Much Home I Can Afford Was Written By Gustan Cho NMLS 873293

How Do I Know How Much Home I Can Afford Versus How Much Of A Home Loan Do I Qualify?  How Do I Know How Much Home I Can Afford is the key and not How Much Mortgage Do I Qualify. Lenders use a formula to qualify you for a mortgage and the only person that has the answer to How Do I Know How Much Home I Can Afford is the home buyer. How Do I Know How Much Home I Can Afford is often asked by first time home buyers. There are expenses that homeowners are responsible for that renters are not. We have covered many articles on buying versus renting and on paper, it may seem like a no brainer to be buying versus renting, however, if something is too good to be true, then it normally is. Overall, buying is definitely better than renting but first time home buyers need to know that just because they are able to qualify for a mortgage loan does not mean that they can afford a new home depending on their lifestyle and their income versus expenses.

How Do I Know How Much Home I Can Afford? Can I Afford To Buy A Home?

One of the most common first home buyer questions is How Do I Know How Much Home I Can Afford? Another most frequently asked first time home buyer questions is how do I know if I can afford to purchase a home?

Many people think that they need a lot of money to purchase a home and therefore they never consider it. However, it is not as difficult as most think it is and sometimes, buying a home may be much cheaper than renting.

Benefits Of Buying A Home Versus Renting

One of the greatest benefits of buying a home and paying your monthly mortgage payments versus renting a home is that paying your monthly mortgage payments will pay down the principal on your mortgage loan balance.

Here is the main key points of buying versus renting a home:

  • When you are renting an are  paying your monthly rental payments, that is just an expense and you will never see that payment again.
  • Paying your monthly rental payments, none of that is an investment and you will never see that again.
  • That rent payment you are paying your landlord, you are helping your landlord pay his or her mortgage payments on the property you are renting from your landlord and you do not recoup any of your monthly rent payments—ever.
  • Most folks who rent a home or an apartment are under the assumption that it takes a lot of money to become a homeowner and believe it or not, many still assume that you need 20% down payment PLUS closing costs to become a homeowner which is not the case.
  • Most folks do not even think about becoming a homeowner because they just assume that a home purchase requires a lot of money and that their monthly mortgage payments will be much higher than their current monthly rent payments which is normally not the case.

Case Scenario On Home Purchase

We will take a case scenario where a renter is about to purchase their new first home as a first time home buyer:

  • If you were to rent an apartment or home, you will need to come up with a security deposit and your first month’s rent.
  • Depending who you are renting from, your landlord may require one month’s rent or two months’ rent for your security deposit plus your first month’s rent in order to turn over your keys.
  • Let’s use a real case scenario and try to be as exact as possible with the numbers on a $100,000 home purchase and will take a renter who would be considering purchasing the $100,000 home versus renting a home that has a market value of $100,000.
  • Most homes in the Chicago and its six surrounding county of Cook, Lake, Kane, McHenry, DuPage, and Will Counties have average monthly rents of $1,500 per month for a two bedroom apartment and/or home.
  • For a $1,500 per-month rental, you would need at least the first month’s rent plus a one-month rent equivalent for the security deposit for a total of $3,000 for you to get your keys.
  • On a home purchase, you will need to put down at least $1,000 earnest money.
  • You will need 3.5% of the purchase price of $100,000 (or $3,500) for a FHA Loan to show the lender that you have the down payment covered.
  • Remember that the down payment on a FHA Loan can be gifted by with a FHA Loan.
  • Since you already gave the $1,000 earnest money, you need to cover $2,500.
  • All real estate transactions have closing costs.
  • Lets figure closing costs on this home purchase will be $5,000.
  • The closing costs of $5,000 can be covered with sellers concessions and/or lender credit.
  • FHA Allows up to 6% for a seller to contribute to the home buyer for sellers concessions.
  • Most of the time, home buyers do not have to worry about closing costs because closing costs can be covered by sellers concessions and/or lender credit or the combination of both.
  • Lender credit can be given by a lender in lieu of the higher mortgage rate. Lets say that if the borrower needs all closing costs covered with a lender credit. The borrower may need to pay a mortgage rate of 4.0% versus the par rate of 3.75% with no lender credit. If on this case scenario we assume that the property taxes are $5,000, in Illinois, property taxes are paid in arrears so the home buyer will get a $5,000 credit towards property tax proration credits at closing where the buyer can apply the property tax proration towards their closing costs.

Summary Of The Amount Of Down Payment And Closing Costs You Would Need On This Case Scenario

Let’s look on a monthly basis now:

Here is what your housing payments will be on a $100,000 home purchase with $5,000 annual property taxes and $600 annual homeowners insurance:

  • Purchase price of single family home: $100,000
  • 3.5% down payment on the $100,000 purchase price: $3,500
  • FHA requires 3.5% down payment so the FHA loan amount: $96,500
  • Upfront mortgage insurance premium: $1,688.75 (added to the FHA loan balance). New loan balance: $98,188.75
  • Annual FHA mortgage insurance premium is 0.85% of FHA loan balance or $834.60 annually, $69.55 per month
  • Annual property taxes are $5,000, or $416.67 per month
  • Annual homeowners insurance is $600, or $50 per month

Now we can do the monthly housing payment calculations:

  • Monthly principal & interest on mortgage balance of $98,188.75 @4.0% FHA 30-year fixed: $468.77
  • FHA monthly mortgage insurance premium: $69.55
  • Lenders require on all FHA Loans for property taxes: Escrow of property taxes: $416.67
  • Lenders require escrow for insurance on all FHA Loans: Escrow of homeowners insurance: $50
    TOTAL MONTHLY HOUSING PAYMENT: $1,004.99

In this scenario, the new homeowner would get the home with cash back at closing. Owning their home requires a monthly payment of $1,004.99. Renting the same home would cost them $1,500 per month.

How Do I Know How Much Home I Can Afford? Is It More Than Renting?

Yes, home ownership does come with more expenses than renting.

The homeowner is responsible for expenses as the following:

  • Expenses for maintenance such as lawn, snow plowing, landscaping, general repairs
  • Expenses for scavenger services
  • If things break down, you cannot call your landlord and are responsible for yourself
  • On the rewards end, your property will appreciate
  • You get to write off mortgage interest expenses
  • Upside in appreciation
  • You get to enjoy your investment
  • You are secure and do not have to worry about your landlord not renewing your lease

Upgrading To A Larger Home Or Downsizing To A Smaller Home

I need to upgrade or downsize, but I can’t sell. How does this work? This question is not a first time home buyer question and many homeowners do upgrade to a large home or downsize to a smaller home. There are often cases, though, where you need more space or less space, and you can make that shift and qualify for a second mortgage on a second property.

  • First, to qualify for a second owner-occupant property without selling the original property you own, if you intend to keep both properties, then the second property needs to qualify as an owner-occupant residence.
  • If it doesn’t, it needs to get financing as an investment property.
  • Home buyers can keep an existing owner-occupant property and purchase a second owner-occupant property if the new owner-occupant property they are purchasing is much larger and/or much smaller.
  • A mortgage underwriter needs to understand why the home buyer is vacating an existing owner-occupant property and purchasing a second owner occupant property.
  • Good reasons include marriage, or a growing family.: a home buyer can purchase the second owner-occupant property if they are moving into a larger property that is at least 30% larger due to a growing family.
  • An underwriter will also understand if the home buyer is going from a larger home to a smaller home due to downsizing.
  • Many folks who have larger single family homes and become empty nesters and decide to downsize to a town home or condominium.
  • Once the second property purchase can qualify for a primary home loan, the next step is to qualify for the second home purchase with having two mortgage loans.
  • If the existing property has at least 25% equity, then mortgage lenders will let you use 75% of the potential rental income of the first property as qualified income in your debt-to-income ratio calculations.
  • An appraisal will be required on the existing home to determine value as well as market rental value.
  • If you don’t have 25% equity in the first property, then the home buyer can pay down the current mortgage loan balance to have at least a loan to value of 75% LTV.
  • If that is done, then 75% of the potential rental income of the exiting property can be used as qualified income in the calculation of the borrowers debt-to-income ratios.

If you are a first time home buyer and have first time home buyer questions or want to go over the benefits of buying versus renting, please contact Gustan Cho at 262-878-1965 or text Gustan Cho on his cell at 262-716-8151 for faster response. You can also email Gustan Cho and The Gustan Cho Team at CrossCountry Mortgage at gcho@gustancho.com.

The information contained on Gustan Cho Associates website is for informational purposes only and is not an advertisement for products offered by The Gustan Cho Team @ Gustan Cho Associates or its affiliates. The views and opinions expressed herein are those of the author and/or guest writers of Gustan Cho Associates Mortgage & Real Estate Information Resource Center website and do not reflect the policy of Gustan Cho Associates Lenders Network, its officers, subsidiaries, parent, or affiliates.

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