Financial well-being May 26, 2015 By
Buying a home is one of the biggest purchases you will ever make. And while it’s an exciting time, it can also be a daunting and stressful task. Before you start shopping for a new home, let’s talk about three primary things to research: your credit score, your debt to income ratio (DTI), and what your payments will be. While there are other key considerations, these three are important when discussing what you can and cannot afford.
Why is your credit score important? Your credit score provides the bank a snapshot of your payment and credit history. Credit scores illustrate your financial responsibilities and how you have maintained them. The max credit score based on the three credit bureaus is 850, but you will be able to obtain very good rates with a score of 730 or higher.
Debt to Income Ratio (DTI)
Your DTI ratio takes into account how much money you’re bringing in and how much you’re paying out in debt payments. To calculate your DTI, add up all of your monthly debt payments and divide that number by your gross monthly income. Your gross monthly income is the amount of money you earn before taxes and other deductions are taken out. For example, if your paycheck is $2,000 a month, but you have a car payment, a student loan, and a credit card totaling $500, your DTI is 25 percent. Your mortgage officer will look at this ratio when evaluating whether to lend you money or extend credit. A low DTI shows you have a good balance between debt and income. And while you can get a loan with a DTI ratio that is below 50 percent, generally you will want to maintain your DTI at around 30–40 percent.
This brings us to your payment. The common components of a mortgage payment are principle, interest, property taxes, and insurance.
- Principal is the actual amount you borrow from the lender. Every time you make a payment, your principal balance decreases, and your home equity—the value of the home in excess of the mortgage obligation—increases.
- Interest is the other big chunk of your payment. Interest is accrued annually (annual percentage rate) regardless of whether you have a fixed or an adjustable rate mortgage.
- All home owners must pay property taxes and must have some type of homeowners insurance. Depending on state laws and other variables, most lenders require home owners to pay into what is called an escrow account, where the lender or mortgage servicer keeps enough money “in escrow” to cover your property taxes and homeowners insurance. You pay into this account each month as part of your mortgage payment. When your taxes and insurance are due, the lender/servicer pays them for you.
So if you've decided to buy a home, remember that while the learning curve can be steep, most of the challenges you may face can be resolved by educating yourself and doing a little financial research in the beginning.
Contact the First United Bank Mortgage and Insurance teams to learn more about mortgage, insurance, and other rates. We are here to help you Spend Life Wisely, including helping you get into the home that’s perfect for your family.