Lenders use ratios to determine a maximum amount of the buyer’s gross income to be used towards a house payment. Using this figure, current market interest rates, and the term of the loan a lender can determine a buyer’s maximum real estate borrowing power. This amount plus the borrower’s down payment determines the price of home that can purchased.
Lender’s typically look at two ratios to determine the ability of a buyer to pay a mortgage. The two ratios are the “Front-end” and “Back-end” ratios. The Front-end ratio is total monthly housing costs (monthly loan payment for principal, interest, taxes, and impounds) compared to total monthly income. You will hear lenders refer to total monthly housing costs as PITI which stands for principal, interest, taxes, and insurance. Lenders typically do not want this ratio to exceed 28% for conventional loans and 31% for FHA qualified loans. For example: A person with a gross monthly salary of $5,000 would qualify for a monthly payment of $1,400 for a conventional loan and $1,450 for an FHA secured loan. The Back-end ratio compares PITI plus all other monthly debt (less than 9 months to pay off would typically be excluded) to total monthly income. This amount should not exceed 36% for conventional loans and 43% for FHA and VA loans. For more details on qualifying ratios for FHA visit the U.S. Housing and Urban Development (HUD) and see page four at this link. Also, always check with your lender to see if these ratios are accurate for their lending programs.
If a buyer is serious there is no substitute for speaking with a mortgage professional. We would be glad to help you. Please contact us if you would like to discuss how to get pre-qualified to purchase a home. This is one of the first steps in the buying process.