How much house can I afford?

What decides how much house I can afford?

Lenders look at three things: your income, your debts and your cash. The main tool is your debt-to-income ratio (DTI). The CFPB defines DTI as all your monthly debt payments divided by your gross monthly income, which is your income before taxes and deductions.

Your credit, the loan type, your down payment and your savings also matter. The CFPB notes that different loan products and lenders have different DTI limits.

What is the difference between front-end and back-end DTI?

• Front-end DTI (housing ratio) is your new monthly housing payment divided by gross monthly income.
• Back-end DTI (total ratio) is your housing payment plus all other monthly debts, divided by gross monthly income.

For conventional loans, Fannie Mae's limits apply to the back-end ratio. The CFPB's Your Money, Your Goals debt-to-income tool suggests aiming for a total DTI of 36% as a homeowner, noting some lenders go up to 43% or higher. It suggests a mortgage DTI of 28% to 35%. These are planning targets, not approval rules.

What is the maximum DTI for a conventional loan?

Fannie Mae's Selling Guide (B3-6-02) sets these limits:

• Desktop Underwriter (DU) loans: maximum DTI of 50%.
• Manually underwritten loans: 36%, which can go up to 45% if you meet the credit score and reserve requirements in Fannie Mae's Eligibility Matrix.

A maximum is not a target. A lender can set a lower limit, and DU weighs your whole file, so reaching 50% is not automatic. Under federal ability-to-repay rules, the lender must also verify your income and debts and consider your DTI or residual income, as the CFPB explains.

Which debts do lenders count?

Fannie Mae's DTI rules count the following monthly obligations:

• the new housing payment, plus payments on any other homes you own;
• installment loans, such as car and student loans, with more than ten months left (shorter ones count if they significantly affect your ability to pay);
• revolving accounts such as credit cards;
• lease payments, no matter when the lease ends;
• alimony, child support or maintenance lasting more than ten months;
• other recurring obligations and any net loss from rental property.

Everyday bills like groceries, utilities and phone plans are not counted. You still need to budget for them.

What goes into the monthly housing payment?

Lenders qualify you on the full payment, often called PITI, plus a few extras:

• Principal and interest on the loan.
• Property taxes and homeowners insurance. The CFPB notes that many lenders require you to pay these through an escrow account.
• HOA or condo dues, if the home has them.
• Mortgage insurance. Fannie Mae requires mortgage insurance on a conventional first mortgage when the loan-to-value ratio is above 80%, meaning less than 20% down. FHA and other programs have their own insurance or fees.

Taxes, insurance and HOA dues vary a lot by location, so get real quotes for the homes you are considering.

How much cash do I need besides the down payment?

• Earnest money, paid when your offer is accepted. It is usually credited toward your costs at closing.
• Closing costs, the fees to get your loan and transfer the home. Your Closing Disclosure shows these costs.
• Prepaid items and escrow deposits, such as the first year of homeowners insurance and an initial escrow balance.
• Reserves, savings left after closing. Some loans require them, and Fannie Mae ties higher manual-underwriting DTI limits to reserves.
• Inspection, moving and repair costs, which lenders do not count but you will pay.

Your Loan Estimate gives an early figure for the cash you will need to close.

Should I borrow the most I am approved for?

Not necessarily. An approval tells you what a lender will allow, not what fits your life. DTI ignores costs like childcare, utilities, commuting, retirement savings and home repairs, and it uses income before taxes.

A practical approach:

• Start from a monthly payment you are comfortable with, then work backward to a price.
• Compare that payment with what you pay in rent and save each month today.
• Keep an emergency fund after closing, separate from any reserves the lender requires.
• Ask your loan officer to run the numbers at more than one price point and down payment.

The worked example below shows how much the answer can move with the DTI you choose.