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How Tenants Can Know If Their Finances Are “Mortgage Ready”
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Are you ready to buy one? home? Many tenants I have no idea.
Millions of renter households in 2022 would have been able to buy a home that year, according to a new analysis by Zillow, which is based on estimates from the US Census Bureau’s American Community Survey.
In 2022, 39% of the 134 million households residing in the U.S. did not own the home they lived in, according to Census data. Among those who did not own the home, about 7.9 million households were considered “income-mortgage-ready,” meaning the share of their total income spent on a mortgage payment for a typical home in their area would have been 30% or less, Zillow reported. found.
Some people simply choose to rent instead of buy. But on the other hand, families may not know they can afford a mortgage, said Orphe Divounguy, senior economist at Zillow.
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If you’re nearing the end of your current lease, it might be a good idea to see if you’re in a position to buy, said Melissa Cohn, regional vice president at William Raveis Mortgage.
“If rent prices are rising, it might be a good time to consider [buying instead],” she said.
Getting verbal prequalification from a lender can help, Cohn said. “The first step is trying to understand whether or not it’s worth it to get all the paperwork together,” she said.
But keep in mind that you’ll need to enter this important conversation with a working familiarity with crucial facts, such as your annual income and debt balances.
Understanding your credit situation and your debt-to-income ratio is a good place to start.
1. There is ‘no harm’ in checking your credit
To know if you’re ready to buy a home, it’s important to understand your purchasing power, said Brian Nevins, sales manager at Bay Equity, a mortgage lender owned by Redfin.
Some prospective homebuyers may have no idea what their credit situation is or be “afraid to even check” because they mistakenly believe it will affect their credit, he said.
In fact, experts say it’s important to keep an eye on your credit months before you buy a home so you have time to make improvements if necessary.
“That’s changed a lot in our industry where we do soft credit checks upfront now where it won’t impact anyone’s credit score,” Nevins said. “There’s really no harm in checking.”
Your credit matters because it helps creditors determine whether to offer him a loan at all, and if so, depending on the rating, at a higher or lower interest rate. And typically, the higher your credit score, the lower the interest rate offered.
That’s why being “invisible credit,” with little or no credit history, can complicate your ability to buy a home. But as you build your credit, you have to find a balance by keeping your debt-to-income ratio in line. Your outstanding debt, like your student loan balance or Credit Card Debtcan also complicate your ability to get approved for a mortgage.
2. Debt-to-income ratio
A very high debt-to-income ratio is the “No. 1 reason” applicants are denied a mortgage, Divounguy said. Essentially, a lender thinks that, based on the ratio, the applicant may have difficulty adding a mortgage payment on top of existing debt obligations.
To figure out a realistic budget when buying a home, you need to know your debt-to-income ratio.
“Your debt-to-income ratio is simply the amount of monthly debt you’re paying on your credit report,” Nevins said. “Think car payments, student loan payments, minimum payments on credit cards…any debt you’re paying off and your estimated monthly mortgage payment.”
A rule of thumb for figuring out your hypothetical budget is what’s called Rule 28/36. This rule states that you should not spend more than 28% of your gross monthly income on housing expenses and no more than 36% of that total on all debts.
Sometimes lenders can be more flexible, Nevins said, and will approve applicants who have a debt-to-income ratio of 45% or even higher.
For example, if someone earns a gross monthly income of $6,000 and has $500 in monthly debt payments, they could afford a $1,660 monthly mortgage if they followed the 36% rule. If the lender accepts up to 50% DTI, the borrower may be able to afford a $2,500 monthly mortgage payment.
“That’s really the maximum amount someone can get approved for in most loan programs,” Nevins said.
Affordability and financial preparedness will also depend on factors such as the average home sale price in your area, how much money you can put down, area property taxes, homeowners insurance, possible homeowners association fees, and more.
Talking to a mortgage professional can help you “map out” all the factors to consider, Cohn said: “They give people goals, like this is what you need to be able to buy.”