Why the mortgage your lender is offering you may not be the amount you should be borrowing

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It is important to calculate your own numbers.


Key points

  • Lenders consider different factors when granting mortgages.
  • Ultimately, only you have the best control over your financial situation.
  • Make your own calculations when signing a mortgage.

Years ago, my husband and I thought about moving from our current home to a new one that would have required a bigger mortgage. When we went to get pre-approved for a mortgage, we provided our lender with a wealth of financial information. From there, we received a pre-approval letter stating that we could borrow much more than the amount we thought we were borrowing. In fact, the number on this document seemed really high for us.

In the end, we didn’t move, so we didn’t apply for a mortgage at all. But if we had applied, we would have stuck with a number far below what our lender was willing to lend us.

If you’re looking to buy a home, it’s important not to rely too much on how much your lender tells you you can borrow. Instead, it’s best to work out your own numbers so you don’t end up in over your head.

The dangers of borrowing too much

If you take out too much of a mortgage, you may struggle to meet your payments. Or, you might struggle to keep up with your other bills, whether it’s your property taxes, utilities, or groceries.

Now, there are different factors that mortgage lenders take into account when determining how much an applicant for a given loan can borrow. Specifically, lenders tend to look at your:

  • Credit score, which measures how risky a borrower you are
  • The debt-to-income ratio, which measures your existing debt relative to your income
  • Income from all sources
  • Available assets, such as savings in the bank

All of these factors can give lenders insight into how much you can reasonably borrow when buying a home. But at the end of the day, lenders don’t know your financial situation as well as you do. That’s why it’s important to think about your total expenses and how they might limit you to servicing mortgages.

Let’s say your only debt right now is a low-cost car loan. Based on this, you might present yourself as a candidate with a low debt-to-equity ratio, which could work in your favor when it comes to getting a mortgage. But even if you don’t have a lot of debt, you might have a number of costly expenses that your lender isn’t aware of.

Let’s say you have two children who need full-time care while you work. You may be spending $500 a week on child care just to keep a job. This is information that you don’t necessarily provide to your lender, but it is relevant information that should be considered in your decision on how much to borrow.

Don’t overdo it

As a general rule, it’s best to keep your total housing costs to 30% or less of your take home pay. And that 30% should include not just your mortgage payment, but also your property taxes, home insurance, and any other predictable housing expenses you’re responsible for, like HOA fees.

If you are offered a mortgage that will take you over that 30% threshold, you should strongly consider borrowing less. Similarly, you can decide to keep your housing costs at 20% of your net salary if you have a lot of expenses to incur.

All in all, you really are in a better position to assess your financial situation than a mortgage lender. Keep this in mind when deciding how much to borrow for a home.

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