1.)    The interest rate charged on the mortgage

2.)    The amortization, or length, of the mortgage.

When it comes to lenders or banks deciding upon the amount and rate of the mortgage loan, they will certainly look into the financial background of the borrower.

Lenders are typically looking to satisfy themselves of the Three C’s of credit – Including the capacity to repay the loan, along with the credit history and the character of the individual. These factors can be determined initially by looking at the credit score, and secondly by calculating several ratios before the determination of how much credit they can grant to the borrower.

The Real Cost of A Mortgage

When one decides to buy a house, there are several payments that must be paid on time in addition to the actual mortgage payment. These other payments should always be included when we ask ourselves the question ‘How much can I borrow for a mortgage’?

Such additional payments consist of home owners insurance, property tax and home owners association fees. When these are all added to the mortgage payment, they comprise a more realistic cost of home ownership. In addition, add this to your other anticipated monthly expenses and this is one of the ways to estimate how much you can really afford when you apply for a mortgage.

Private Mortgage Insurance – PMI

This might be another expense that could alter how much mortgage we can afford. Private mortgage insurance, also known as PMI; is an additional cost that must be added if you are not able to afford 20% of the homes price paid as a down payment. In such a case, you will need to purchase private mortgage insurance in order to protect the bank’s investment in your high ratio mortgage.

Front-End Ratio

The front and ratio is the comparison between the monthly mortgage cost-which includes insurance, real estate taxes, private monthly insurance with your total monthly income. Generally mortgage costs are given to make up between 26% to 29% of your monthly income, in this case your monthly maximum repayment amount would be $840. This is another analysis you can use in answering the How much I can borrow for a mortgage question.

Back-end Ratio

When your total income is compared with your total debt payments, this is called back end ratio. This, more comprehensive, ratio includes credit card debt and college loans, and any other debt you have. It can make a total of up to 33 to 40% of your income.

For example, if your bank sets 35% as the limit, and you have a monthly income of $3000. In this case your total debt paid in a month would be $1,050. If you pay $400 as a monthly student loan, you would then have a maximum of $650 left from your income which can be used to repay the mortgage loan.

Credit Score

If you have a good credit score, the banks may increase the limit of the above ratio calculations because your history of repayment cements the bank’s faith in your credibility. Once the ration is determined, all the aforementioned characteristics and calculations help both the borrower and lender in deciding how much credit is really affordable for the borrow.

As you can see, answering the question ‘How much can I borrow for a mortgage’ is not as easy as we might think.  There are many variables that lenders take into consideration and we must fully understand those variables in order to determine how much mortgage we can really afford.  It’s just not as easy as some online mortgage calculators would have you believe!

For more information on Mortgages, check out my Mortgage Survival Guide For the First Time Homebuyer!

Mortgage and Housing Markets

Today’s housing market in most of the United States is a virtual candy store for the homebuyer. The sheer selection of properties on the market in most cities allows today’s homebuyer a tremendous selection at prices we have not seen in many years. There is only one problem however – lenders are tightening the purse strings on mortgage financing!

With lenders becoming more and more risk-averse, obtaining a suitable mortgage these days can often be a daunting task. There are numerous types of mortgages to choose from, and because of some previous “shady” lending practices, you need to make sure that both your lender and your mortgage are on the up and up.

With that said, there are several different types and structures of mortgages with various options to consider before committing yourself to such a large obligation.

Once you have settled on a legitimate mortgage with acceptable terms and conditions, there is the issue of the interest rate. Which option you choose will depend on your circumstances, but visiting your lender armed with the knowledge of the basic differences in terms and conditions will give you the confidence to get the best deal.

Here’s a quick guide to some different types of mortgages:

Fixed Rates

With a fixed rate mortgage, you agree with the lender on a set period of time – usually between two and five years – during which the interest will not change. The benefit here is that you will not suffer an increase if rates go up. Similarly, you won’t benefit if rates go down, and the borrower will likely face stiff penalties in order to pay out the mortgage early. As intriguing as a low, fixed rate interest plan may seem, you must check how long you are required to remain with the lender before you can pay out the mortgage without penalty.

Variable Rates

The amount you pay for your mortgage alters in line with national interest rates. Normally, the interest reflects the changes in the base lending rate of the central bank; this is decided by the Federal Reserve whom control the monetary policy for the country. Every time the Fed raises the overnight rate, the lenders eventually follow suit because their cost of funds increases. And in order for the lender to make money there has to be a “spread” between its cost of funds (the rate the bank pays to borrow money) and what the back charges to lend that money to the consumer.

Capped Rates

The idea behind capped rates is to offer the best of both fixed and variable rates. A “cap” is set on the interest so that it will never rise above that level, but if national rates fall, your interest will go down accordingly. The benefit of these is that you know the maximum interest rate that you could end up paying. However, the capped rate is not generally very competitive.

Discounted Rates

Discounted rates will fluctuate in line with the lender’s variable rate, but are obviously cheaper to tempt customers in. After the discount term has ended, the rate will then revert to the normal variable rate.

Banks and companies offering mortgages are now required to supply customers with a key facts document that provides all relevant information relating to the loan, and clearly sets out the total cost of the loan, not just the interest.

What Else Can affect My Mortgage Rate?

Along with the various types of mortgages available, there are a few other things that can affect the rate of interest that you will be charged on your mortgage.

One of the major factors that will affect the rate of interest that a lender will charge for your mortgage is the risk that they perceive they are taking by lending money to you. The major tool that lenders use to judge risk is your credit score. A better credit score will result in a lower mortgage interest rate because you are determined to be a lower risk than someone who has a lower credit score.

Do Your due Diligence

Whichever mortgage you choose, make sure you thoroughly research every option and compare lenders. You are, after all, bound in to the agreement for a long-time, and it’s sensible to make sure you get it right first time as switching lenders can involve hefty penalties. Lenders may have significantly different terms and conditions for their mortgages.

Remember, that it doesn’t matter how low an introductory rate is if it will significantly increase in 6-months or 1-year. Be sure that you read the fine print and calculate the actual costs of the mortgage over the entire amortization period.

There are plenty of great homes out on the market right now and there are a ton of reputable lenders who will be happy to lend money for home purchases. The key is to be knowledgeable and well prepared when applying for a mortgage so that you ensure that you get the best mortgage for your situation.

Happy house hunting!

Debt is a Tool.

It is that simple.

Loans, mortgages, credit cards etc. These are all tools that, if used correctly, can not only help you manage your cash flow but increase your wealth as well. Yes, debt can be terrible if you can’t control it, but it can also be your best friend if managed correctly.
I already talked to you about the power of using a mortgage as leverage to build wealth and why lenders are more eager to hand out money when it is backed by an asset such as real estate versus consumer debt – like a car loan!

Why is This Article Titled “Student Loan Strategies”?

Well, as mentioned in the previous article on student loans, the student loan is some of the easiest money (debt) that we can obtain as average individuals. It is even easier to obtain than a mortgage because you are not required to prove that you have an established income. The debt is backed by your future earnings – how’s that for pressure!

Anyway, as we get back to the moral of the story and we understand how we can leverage our student loan money so we might graduate without a negative net worth, there is a way to combine the above strategies in order to profit while getting your degree.

Kiss The Dorms Good Bye!

This strategy is directed toward the parents of children who are on their way to college. So, if you are a college student, or about to be one get your parents on the phone!

To the parents…

Your child will have to live somewhere and either you or they will have to foot the bill regardless of where they hang their hat, so why not profit from it?

The strategy is to purchase a house with as many bedrooms and bathrooms as possible in a location that is as close as possible to the university. Yes, you will be renting this house out – but your child will be managing the rental.

College rentals can be unique and very profitable in that it is possible in this situation to rent “by the room”. While most residential real estate rents by the unit or the house, the college market will allow increased returns by renting by the room.

An Example

A 4 bedroom home that would normally rent for say $1000/month as a unit can often be rented by the room in the college market for between $350 and $450/month per room. As you can see the potential for profit is much higher and the potential for your child graduating without a mountain of debt it also greater.

This strategy requires more management as you must collect rent from each person separately instead of collecting one check from the entire house. If you trust your child and they are responsible, this should not be a huge issue as they will be living there to manage the property.

This will also help your child to learn to better manage finances and learn business skills such as management, marketing and basic accounting.

The Benefits

Ideally, the monthly profits (cash flow) from the roommates can cover expenses, repairs, vacancies etc. or may be used to have your child live, essentially, for free!

However, the best part about this strategy is that over the course of the 4-5 years that your child is in college, you will be gaining equity in the home courtesy of your child’s college roommates. This equity can be crystallized by selling the home when the child graduates and using the equity to pay off the student loans for example.

If you have a steady income and a good credit score, buying a house for your child to live in while going to college is typically a sound strategy.

The Kicker

If you have more than one child that attends the same university, this strategy can have a compounding effect as the younger ones enter school and the rooms continue to be rented out, your equity grows and grows.

If you are fortunate enough to realize a substantial capital gain along with your home equity, you executed this strategy exactly as my good friend and his parents did when I attended college. I only wish my parents and I could have undertaken this strategy instead of paying off someone else’s house!

I hope you enjoyed this example and are able to benefit from it. I share this with you, not because I profited from it, but because I was a victim of it! If it helps your child start their professional life without the same $40,000 in student loan debt that I had, then it has been worth the time to write this article.

Stay tuned later this week when I will tell you a story about what I learned from falling victim to this strategy and how it catapulted my net worth right out of college!

Along these lines, I must convey a story about my brother that just recently happened. This is not fiction and is the honest truth. First off, let me say that my brother is the exact financial opposite of myself. He is out for one thing and one thing only – to spend all, and more, of the money he makes!

On With the story.

My brother recently decided that his 2001 Chevy truck was costing him too much money in fuel and maintenance costs – not to mention the $400/month payments he was making on his loan that he is upside down on (he owes more than the truck is worth). So, he decided that it was in his best interest to sell the truck.

I said “Good Idea”!

He then proceeded to sell the truck and even went a couple of weeks without a vehicle. I thought that maybe he had changed and that he was going to purchase an older, more reliable vehicle that he could afford. He even mentioned to me that he found a grandmother with a 1991 Ford Tempo that had very few miles on it and she would sell it for around $1500.

I said “that would be a great idea”!

At this point I really thought that he had changed and I started to feel proud of myself. I thought that my explanation to him about how he couldn’t get a mortgage for a house that he desperately wanted if he had to make lofty monthly car payments had finally hit home.

The Call Came

I received a phone call from my brother and I could tell that he was very excited on the other end.

Me: “So did you buy the car”?

Him: “Even better, I got a 2005 Chrysler 300 for $3000 less than market price”!

Me: “That’s great, so you can sell it and make about $3000 toward a down payment for a house”.

Him:“Well, I just talked to the loans guy at the Credit Union and he said that since I just started a new job I wouldn’t be able to get a mortgage for a couple of years anyway, so I might as well drive a sweet car”. He didn’t even ask the loans officer how he could improve his credit score in order to qualify for a better rate on his loan. In fact he doesn’t even know what his credit score is!
If you live in the United States and you don’t know what your credit score is, you can find out for free from Experian.

Me: “Sigh…Well if that is more important to you than buying a house (sarcasm here)”.

My soul fell directly to my boots as I realized that my “talk” had not sunk in and he had certainly not changed. He has continued to run on the Car Loan Treadmill and I’m saddened to say that he will likely never get off of it.

I have had several conversations explaining to him the basics of personal finance to no avail. He continuously declares that he wants to save money, have an emergency fund and buy a house, but he refuses to follow even the most basic rule of spending less than you earn.

Moral of the Story

If you spend more than you earn and owe more than you own (negative net worth), you will not be wealthy.