Your lender decides what you can borrow, but you decide what you can afford.
Lenders are careful but make qualification decisions based on averages and formulas. They won’t understand the nuances of your lifestyle and spending patterns as well as you do. So, leave a little room for the unexpected – for all the new opportunities your home will give you to spend money, from furnishings to landscaping, to repairs.
Historically, banks use a ratio called 28/36 to decide how much borrowers can borrow. An approved housing payment couldn’t be more than 28 percent of the buyer’s gross monthly income, and their total debt load, including car payments, student loans, and credit card payments, couldn’t be more than 36 percent. (In Canada, lenders apply similar formulas to determine how much a buyer can afford. The Gross Debt Service ratio, or GDS, is not to exceed 32 percent of the buyer’s gross monthly income, and the Total Debt Service ratio, or TDS, is not to exceed 40 percent of the buyer’s total debt load.) Some lenders have responded by stretching these ratios to as high as 50 percent as home prices have risen. No matter how expensive your market is, we urge you to think carefully before stretching your budget.
Deciding how much you can afford should involve careful attention to how your financial profile will change in the upcoming years. Your peace of mind and security will matter most in the long run.
