How Much Money Can I Borrow to Buy a House?

There may never be a better time to buy a home of your own. Mortgage rates are at an all-time low, and as more and more banks foreclose on delinquent mortgages, housing prices continue to fall across the nation. For those lucky enough to have the money to buy now, there are deals to be had. But, how much can--and should--you borrow to buy a home? Don't become a slave to your house payment. Know how much you can afford before you go shopping for that new house.

Know What Types of Mortgages Are Available

Too many home buyers have taken out mortgages for the most amount they could get with little thought or knowledge about the type of loan they were taking on or how it would affect their family's financial future. Before you begin shopping for that new mortgage, be sure that you understand what kinds are available. Fixed rate loans are the gold standard among mortgage loans, and offer the safest borrowing medium. When you take out a fixed rate mortgage, you may pay a slightly higher interest rate, but you are guaranteed that neither it nor your payments will ever increase during the life of your loan. This is an especially good option for those who plan on remaining in their homes for more than 5 to 10 years. Adjustable Rate Mortgages (ARMS) often offer a low starter rate (which helps keep your payments down), but adjust upward over a period of time. Some of these ARMS contain caps that do not allow your interest rate or payments to go beyond a certain amount, but most do not. While these loans can help you buy more house now, be certain you can afford those higher payments later. Interest-only loans are another way to borrow more money and pay less--at least in the beginning. When you take out an interest-only loan, you are only required to pay the loan's interest for a set period of time (often ranging from a few months to a few years). Eventually, however, those payments will jump higher--often much higher--when the normal loan terms kick in and you must begin repaying the loan principle in addition to its interest. FHA/VA Loans are loans backed by the federal government that offer the opportunity for low- and medium-income buyers to put less down on the house and pay fewer closing costs. These loans can either be taken with a fixed or adjustable interest rate and some restrictions do apply. Combo, or 80/20, loans are actually two mortgage loans, allowing the borrower to borrow 100 percent or more in the equity of the house. The first, fixed rate loan is equal to 80 percent of the home's value at the time of purchase, with a smaller adjustable-rate 20-percent equity loan taken out to cover the down payment and leftover purchase price. These loans can be especially dangerous in a real estate environment that doesn't hold its value, since it can leave the borrower owing more on the home than it is worth.

Figure Out How Much You Can Spend on Your Monthly Payment

The first step to figuring out how much money you can borrow to buy your new home is to figure out how much you can afford to put toward your monthly mortgage payment. Owning a home is expensive, and when you figure out your monthly expenses you'll want to be sure to include such extras as hazard insurance, maintenance, utilities, renovations, taxes and more. Remember, there's always something to spend money on when you own a house, so be sure to include a small emergency fund in your budget. Once you have listed all of your monthly expenses, than deduct that amount from your income and you'll have a good idea how much of a mortgage payment you can afford. Remember, you should never spend more than 35 percent of your total gross income on your housing payment (including taxes and insurances), but depending on your other expenses that percentage may be much lower. For instance, if your monthly expenses equal 80 percent of your salary, then you'll only have 20 percent left to put toward your home. One warning here: At this point you may be tempted to start slashing spending categories in order to find the money to buy your new home. Be careful when doing this. Most people take out a mortgage for 25 to 30 years, and unless you are willing to give up eating out for the next 30 years, I'd consider cutting your normal eat-out budget instead of slashing it altogether.

Determine How Much You Can Spend on Your New House

Let's say--after carefully reviewing your budget--you determine that you can afford to spend $1,500 a month on your mortgage payment (excluding taxes and insurances); the next step is figuring out how much mortgage (and house) that amount will buy. This is the time to log onto a good mortgage calculator on the Internet. They are free, easier and quicker to use than trying to do the calculations by hand. In order to determine the size mortgage you can afford, you'll need to know your interest rate and mortgage term length. Let's say that the current interest rate is 6 percent and you will be taking out a 30-year fixed rate mortgage. Your $1,500 a month would equal about $250,000 in buying power. In contrast, a 30-year fixed mortgage equaling $125,000 would cost you about $750 a month, and a $175,000 house would run about $1,100 a month using these calculations. One quick way to figure out an estimated housing amount using a 6 percent interest rate and a 30-year fixed rate is to multiply the amount of the house per one thousand dollars by 6 percent--the total will equal your mortgage payment. For instance, if you multiply that $250,000 house (250 x 6), the total is $1,500--the estimated monthly mortgage payment. That means a $100,000 house (100 x 6) would cost about $600 a month. While not perfect, it can give you a good estimate to begin your search.

Check Your Credit Rating

Your credit score may determine how much money a lender will give you. If your credit rating (or FICO score) is below 650, you'll have a difficult time securing the loan. If your FICO score is low, the lending institution probably will require a larger down payment and it might charge higher interest rates.

Things to Consider

When borrowing the money to buy a house, there are a few important things to consider: 1. The amount you qualify for isn't always the amount you should take. Just because a lender says that you can afford to borrow $250,000 doesn't mean that you can. Lenders often do not consider factors such as school tuition, vacations, renovations and fun money when calculating how much mortgage you can afford. They usually only consider your necessary expenses (including other loans, mortgage, utilities and food) when calculating their final mortgage amount. 2. Your Lifestyle. If you simply cannot live without a Caribbean cruise vacation every year, you'll want to be sure to calculate those costs in your expenses. 3. Career Changes. Most people count on getting annual pay increases to help offset unexpected housing costs, but some people must also consider income losses when taking out a long-term mortgage. If you are a young couple without children and you want to take out a 30-year mortgage, you may want to consider the impact adding to your family or taking time off of work will impact your financial situation. It's never a good idea to rely on both salaries in full to meet your mortgage responsibility. After all, people get sick, babies are born and layoffs happen. Should you be risking your home if any of these happen, you may want to consider taking out a smaller, more manageable mortgage. 4. Changing Expenses. Your expenses won't stay the same over the course of a few decades. You'll add a few and you'll take away a few. While you can't know in advance everything you'll need to spend money on down the line, you should try and factor in the things you know about right now like student loans, new car purchases and retirement