Financial Awareness Month: Budgeting for a Mortgage

Right now, it’s a fantastic time to start the homebuying process. But you’ve probably heard accounts of how stressful homebuying can be, with all the competition from other buyers, the long search for the perfect home, and applying for a mortgage.

Your mortgage will possibly be the largest financial commitment you’ll make in your lifetime, so it’s understandable to be a bit nervous before filling out the application. You might be questioning if you have the funds to consistently make your mortgage payments each month. But that’s why you do your homework first! In honor of Financial Awareness Month, here’s a quick rundown of things you should consider when budgeting for a mortgage.

What is a Mortgage?

Because Financial Awareness Month is all about learning common concepts in the world of finance, let’s define exactly what a mortgage is. Your mortgage is an agreement between you and a lender who, after evaluating your finances, loans you the money to purchase or refinance a home. They will not lend you the money for the down payment, inspections, or closing costs, so you’ll need to make those payments on your own.

As you might expect, one mortgage doesn’t fit all, so there’s much to consider when shopping for your loan. For example:

• the interest rate (fixed or adjustable)

• monthly payments

• annual percentage rate (APR)The yearly cost of the loan for the borrower.annual percentage rate (APR)The yearly cost of the loan for the borrower.

• the loan’s term (15 or 30 years)

• closing costs and lender fees

Next, the lender will determine how much of a loan you can get based on your current income, credit score, and debts, among a few other parameters. The lender will go over how much you might pre-qualifyAn early estimate of how much you might be able to borrow from a lender.pre-qualifyAn early estimate of how much you might be able to borrow from a lender. for when you meet with them for the first time. But that doesn’t mean you can’t do a little calculating on your own to figure out how much you can spend on a home first.

How Much Can I Afford?

No doubt about it, purchasing a home is a huge commitment, so you’ll want to make sure it’s something you can manage. One of the best ways to get a good estimate of how much you can afford before meeting with a lender is to calculate your debt-to-income (DTI) ratioThe percentage of your gross monthly income that is used to pay your monthly debt and determines your borrowing risk.debt-to-income (DTI) ratioThe percentage of your gross monthly income that is used to pay your monthly debt and determines your borrowing risk.. That way, you’ll know exactly how much of your money goes to your debts each month. The number left over is the amount you would have available for your mortgage and other personal expenses. However, calculating your own DTI will not be official.

According to Freddie Mac, you should spend no more than 28% of your gross monthly income on your mortgage. So, if your gross income is $4,000 each month, that means your monthly mortgage payment shouldn’t exceed $1,120. But remember, apart from a lower DTI, improving your credit score and applying for a mortgage when rates are lower are also two excellent ways to get the best loan option available for you.

Ways to Budget

The first step in budgeting for a mortgage is to write down how much income you bring in each month. If you’ve already tried your hand at calculating your DTI, you probably already have the exact number. After that, you should record your monthly expenses and their value. You’ve got your housing expenses which incorporate your rent or renters' insurance, your monthly payments like your car payment, student loan, and credit cards, and additional expenses such as your bills, gas, and entertainment.

Once you subtract your expenses from your income, you’re left with a number that either pleases you or doesn’t. If you wish that number was a little larger, you could try selling unnecessary or unwanted items lying around your house, cancelling any subscriptions you don’t use or cutting back on dining out for your meals. For more tips on how to effectively save your money for your potential mortgage, follow the link to another article from the Knowledge Center.

The Additional Costs

Keep in mind, there will be some upfront costs when your loan makes its way to the closing table. We’ve mentioned the down payment, the money that represents the percentage of the home you can pay for now. For help with the down payment and even closing costs, you can seek help from loved ones with gift funds or through a down payment assistance program. These programs are typically reserved for first-time homebuyers.

Closing costs include fees such as lender service charges, appraisal fees, and property taxes. They generally makeup around 2-6% of your home’s purchase price.

Your trusted Mortgage Banker will go over all this information with you, but it doesn’t hurt to prepare in the meantime! Being a better-informed buyer helps reduce your stress levels when you’re home shopping. Understanding your budget inside and out and knowing exactly what you’re paying for are key to your success.