“What is the maximum loan amount I qualify for?” A popular question asked by many home-buyers at the onset of the pre-approval process.
What if I told you loan amount has nothing to do with debt to income ratio approval? Well, it’s a true statement believe it or not. Home loan pre- approval is not based on the applicants loan amount. Other critical factors play a role what a borrower can actually afford.
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Max Loan Amount or Max Payment
What does matter is total monthly housing payment. While loan amount impacts mortgage payments, there are several factors that complete it:
- Property taxes
- Homeowner’s insurance
- Mortgage insurance
- Homeowners Insurance (AKA “Hazard Insurance)
Shopping for a home based solely on maximum loan amount is a recipe for trouble.
Total Monthly Mortgage Payment Matters
Maximum debt to income ratios typically define a borrower’s maximum approved loan amount. Debt to income ratio translates to “borrower can only have X% of their gross monthly income in monthly debt payments” and still qualify for a home loan.
For example, a borrower earning $10,000 gross a month on a loan with a 45% debt to income ratio can have a maximum of $4500 (45% x 10,000) in total monthly debt payments. Included in this total is:
- Borrower’s new mortgage payment
- Revolving debt payments
- Installment deb payments
- Other mortgage payments
- Child support/alimony payments
In addition, the 4 variables above (taxes, insurance, mortgage insurance and HOA dues) factor into the debt to income ratio calculation. Each of these costs differ from property to property. Therefore, 5 homes at the exact same price will actually have 5 different payments. Since payment is what matters (not loan amount) it’s not possible to make a blanket statement regarding a borrowers maximum loan amount limit.
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For example, a$300k loan amount using $250/mo in property tax and $75/mo for HOA dues is a good start. However, its at best an educated guess. Now lets assume these figures max out the borrower’s debt-to-income ratio (DTI). Imagine if that client used a lenders “max loan amount” pre-approval and went under contract. Exciting right? Yes, unless the home’s property taxes and hoa total $400 a month. If the borrower was capped with an estimate where taxes and insurance total $325 they are now $75 over what they qualify for per month.
When Maxing Out Your Mortgage Shop Carefully
when you max out your mortgage, you and your Real Estate Agent need to be in close contact with your lender. Prior to making offers, your lender should review the taxes and hoa dues on each property. This way, they will confirm whether or not that home fits your pre-approval.
Great communication with your lender also enables you to decide ahead of time to pay off a small debt to make the higher payment work. Much better than getting a surprise call 1 week before closing being told the only way to make it work is to pay off some of your debt.
By Jeremy House