You must consider all the costs associated with owning a home before making a mortgage commitment. Lenders require that you maintain homeowners insurance to protect your investment if the home is damaged by weather or fire. Your total housing expense includes more than just the loan and house insurance, though. Understanding the percentage of gross income your lender allows you to spend on housing can help you determine how much you should pay for a mortgage and insurance.
Lenders rely on debt-to-income ratios to measure what percentage of your gross income your total house payment accounts for. The DTI ratio, expressed as a percentage, can vary greatly by lender and takes into consideration your overall financial profile. A comfortable housing payment -- including loan principal, interest, taxes and insurance -- takes up no more than 28 percent of your gross income, according to Bankrate.com. Lenders might allow up to a 35 percent housing DTI, though, according to Money Under 30.
Your monthly mortgage and homeowners insurance payment must be lower than 28 percent of your gross income to have the most loan programs available to you. A low ratio allows you to qualify with more lenders, which gives you a better opportunity to get the best terms. You can determine whether you are below the 28 percent benchmark by subtracting the monthly property tax payment amount from the total housing costs. You are left with principal, interest and hazard insurance. You must also exclude private mortgage insurance, if your lender requires it.
Multiply your total salary by .28, then divide by 12 to get your monthly gross income. For example, if you earn $48,000 a year, you can get a housing payment up to $1,120. Subtract the property taxes and the answer is the maximum amount you can spend on your mortgage and insurance. If you want to get a loan with a more aggressive DTI ratio, say about 35 percent, you multiply your salary by .35 or less to make the calculation. Remember that the higher your DTI, the more risk you pose to the lender. This risk usually increases the cost of your loan, such as its interest rate.
Determine your homeowners insurance premium before getting a home loan to help calculate your housing DTI. You can get an estimate from a local insurance agent or company for the area and home type you want to buy. The lender typically requires that you insure the home for at least 100 percent of its replacement cost. An insurance agent can help you determine a property's replacement cost. Divide the premium by 12 to determine the monthly cost of homeowner's insurance that is counted into your monthly payment.
- Money Under 30: What Percentage of Income Can You Afford for Mortgage Payments?
- Bankrate.com: How Much House Can You Buy?
- State Farm: How to Determine Your Home Insurance Coverage
- Federal Reserve Bank of Boston. "Discrimination, Redlining, and Private Mortgage Insurance." Accessed September 12, 2020.
Karina C. Hernandez is a real estate agent in San Diego. She has covered housing and personal finance topics for multiple internet channels over the past 10 years. Karina has a B.A. in English from UCLA and has written for eHow, sfGate, the nest, Quicken, TurboTax, RE/Max, Zacks and Opposing Views.