How Much House Can You Afford?

Affordability is mostly about the monthly payment, not the price tag. A typical mortgage payment has four parts, often abbreviated PITI:

• Principal, which pays down the loan balance.
• Interest, the cost of borrowing, which depends on your rate and loan term.
• Taxes, the property taxes on the home, usually collected monthly and paid by your lender from an escrow account.
• Insurance, the homeowners policy your lender requires, also usually paid through escrow.

Add mortgage insurance if your down payment is small, HOA or condo dues if the property has them, and flood or other special insurance where it is required. These costs can add a meaningful amount to the payment, and property taxes and insurance premiums vary widely from one area to another.

Then look beyond the mortgage. Owning a home brings utilities, maintenance and repairs that renters often do not pay directly. A common rule of thumb is to set aside a percentage of the home's value each year for maintenance, but older homes and homes in poor condition can need much more.

The mortgage calculator lets you test how price, rate, term and down payment change the payment.

Lenders judge how much you can borrow mainly through your debt-to-income ratio, or DTI. It compares your monthly debt payments with your gross monthly income, before taxes.

• Front-end ratio: your proposed housing payment divided by gross monthly income.
• Back-end ratio: your housing payment plus other monthly debt payments, such as car loans, student loans, credit card minimums and child support, divided by gross monthly income.

For example, if your gross monthly income is $8,000, your proposed housing payment is $2,000 and your other debts total $600 a month, your front-end ratio is 25% and your back-end ratio is 32.5%.

A long-standing guideline is to keep housing costs near 28% of gross income and total debt near 36%, but that is a rule of thumb rather than a limit. Actual maximums depend on the loan program, your credit, your savings and other factors, and some programs allow higher ratios. Ask your lender which limits apply to you.

Lenders also weigh your credit history, the stability of your income and your savings; the guide to getting pre-approved explains what they check. Use the debt-to-income calculator to see where you stand before you apply.

Your down payment affects your loan amount, your monthly payment and whether you pay mortgage insurance. The share of the price you borrow is called your loan-to-value ratio, or LTV.

Conventional loans with less than 20% down usually require private mortgage insurance, which protects the lender and adds to your monthly cost. It can usually be removed once you build enough equity, under rules set by your lender and federal law. Government-backed loans, such as FHA loans, have their own mortgage insurance rules, which differ from conventional PMI.

Minimum down payments differ by program and change over time, so confirm current requirements with a lender. Down payment assistance programs exist in many states and localities; eligibility rules vary.

Putting every dollar into the down payment is not always wise. Keeping a cash cushion can matter more than avoiding mortgage insurance, especially on an older home.

Many buyers focus on the down payment and are caught short by everything else. Plan for:

• Earnest money, deposited when your offer is accepted and usually credited at closing.
• Inspection and appraisal fees, often paid before closing.
• Closing costs, including lender fees, title insurance, recording fees and transfer taxes where they apply.
• Prepaid items and escrow deposits, such as the first year of homeowners insurance and an initial deposit for property taxes.
• Moving costs and immediate purchases, such as appliances or window coverings.
• Repairs found during inspection or needed soon after moving in.
• Reserves, an emergency fund that remains after closing.

Closing costs vary widely by state, price and loan type, and which costs the buyer pays is partly negotiable. Your lender's Loan Estimate gives an itemized estimate, and the closing cost calculator helps you plan earlier. The guide to closing costs explains each category.

Some lenders require you to show reserves equal to a certain number of monthly payments after closing, particularly for larger loans or investment properties. Even when it is not required, reserves are what keep a surprise repair from turning into missed payments.

A pre-approval tells you how much a lender is willing to lend. It does not tell you how much you should spend. Lenders work from gross income and recorded debts; they do not see your childcare costs, retirement saving, travel, commuting expenses or plans to change careers.

To find your comfortable number, start from your actual take-home pay. List your fixed costs and savings goals, then see how much is left for housing. Compare that with the full monthly payment on the homes you are considering, including taxes, insurance and any HOA dues.

Stress-test your budget. Ask what would happen if property taxes rose, if insurance premiums went up at renewal or if one income stopped for a few months. If you are considering an adjustable-rate loan, look at what the payment could become after the fixed period ends.

It also helps to compare buying with continuing to rent. Owning builds equity over time but brings transaction costs, maintenance and less flexibility. The rent vs. buy calculator compares the two over the period you expect to stay.

If the comfortable number is lower than the approval, use the lower one.

Foreclosures, bank-owned homes and other properties sold as-is can cost less upfront, but they shift costs into repairs. Before you compare one with a move-in-ready home, add the cost of making it livable.

• Get repair estimates early. An inspection and contractor quotes turn guesses into numbers.
• Add a contingency. Older and vacant homes often hide problems behind walls and under floors. Many buyers add a cushion on top of the quoted repair cost.
• Count carrying costs. If you cannot move in right away, you may be paying a mortgage, taxes, insurance and utilities on the new home while paying rent or another mortgage elsewhere.
• Check financing limits. Lenders may not finance a home that fails their condition standards, which can mean using a renovation loan or more of your own cash.

Renovation loans, such as the FHA 203(k), can roll repair costs into the mortgage, subject to program rules. The guide to financing a distressed property compares that option with conventional loans, cash and short-term financing.

Run the full cost, purchase price plus repairs plus carrying costs, through the same monthly budget you would use for any home. A discount on the price is only a saving if the total still fits.