Buying a new home certainly puts a heavy dent in your pocket, and this big financial decision needs to be made with great care and consideration. Taking up a mortgage means you are liable for payment and making a financial commitment for the long-term. Hence, the first rule to home buying is to know what you can afford. Let's look at some of the steps you should take to determine your affordability.

Existing Monthly Expenses

It is always a good idea to account for all the monthly expenses you are currently incurring before deciding to take up those mortgage payments. Common bills and monthly cash outflows include:

  • Utility bills
  • Car payments and insurance
  • Other loans (like students loans)
  • Credit card payments

If you jot down your monthly expenses against your current income, you will get a fair idea of whether you have the disposable income to make mortgage payments or not.

Mortgage Payments - Rule of 28/36

Ideally, your mortgage payments should not exceed 28% of your gross income i:e income before taxes. Your overall household debt should not exceed 36% of your gross income. This means that after paying the 28% in mortgage payments, your remainder debt (car/student loans, credit card payments, etc.) should not be more than 8% of the gross income. The 28/36 is a common rule to determine your ability to make mortgage payments or not.

Pre-Qualification

It is a good idea to have a basic assessment of your credit done and get a pre-qualification. Whether you are pre-qualified or not will help you determine if you will be able to score a loan; in this case, a mortgage. Several factors go into your pre-qualification, including your credit score, credit history, timely payments, etc. Pre-qualification will also help you determine how large a loan you will be granted.

Pre-Approval

While pre-qualification is an assessment of your creditworthiness, pre-approval is one step ahead. This is when a lender gives a conditional commitment on a certain amount as a loan. Borrowers will then get a fair idea of the price range they should look for, which would be around or below the pre-approved loan amount. Pre-approval is a great idea for borrowers or potential home buyers as it prevents wastage of time in viewing expensive/unaffordable properties.

Thus, know your financial ability before making a decision.

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