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Determining the Affordability of a House
To assure you are purchasing a home within the confines of your budget, you must consider closing costs as well.
First calculate the estimated mortgage payment. Several formulas exist to help determine how much a lender will allow a consumer to borrow. One of the more accurate formulas is a front- and back-end ratio. It states that the buyer can afford as much as 28 percent of his or her gross-monthly income toward the monthly mortgage payment, assuming that the consumer's other debt payments (credit cards, car loans, student loans and so on) are less than or equal to 8 percent of his or her gross-monthly income. 
To better understand this formula, assume a gross-family income of $5,000 a month. The front-end ratio or maximum monthly mortgage payment is (28 percent of $5,000) $1,400. The back-end ratio is (8 percent of $5,000) $400. Therefore, the buyer can afford a $1,400.00 monthly mortgage payment as long as monthly debt payments are less than or equal to $400. If debt payments exceed the back-end ratio, it will reduce the monthly mortgage payment dollar for dollar. For example, if debt payments are $500, the maximum monthly mortgage payment a person could afford would be reduced to $1,300.
Down Payment and Closing Costs
These terms refer to how much money the buyer will have to pay out of pocket and up-front to purchase a home. Down payment is simple; it refers to the amount of money the buyers needs to invest at closing toward the price of the home. Most lenders request a down payment of at least 10-20 percent of the cost. For first-time home buyers, this may be difficult to achieve. Several programs are available and relatively easy to qualify for that allow buyers to make down payments of as little as 3 percent of the price of the home.
Closing costs vary from state-to-state, city-to-city and even from home-to-home. Closing costs can include attorney fees, home inspection costs, title search fees, bank fees, termite inspection fees and radon inspection fees, to name a few. The mortgage lender requires some of these services and others are legally necessary depending on where the buyer lives. For the sake of estimating, closing costs can range from 1 to 5 percent or more of the value of the home.
While up-front costs are more than one would pay for renting, homeownership is most often a sound and rewarding investment.
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