What Percentage Of Income Should Go To A Mortgage?

When buying a home, it’s important to know how much of your income you can afford to put toward your monthly mortgage payment. Knowing this can mean the difference between being able to live comfortably while maintaining your other financial priorities, or being “house poor” and struggling to make ends meet each month.

So what percentage of your income should you put towards your mortgage payment? There are a few different rules that can apply here, so let’s take a closer look.

What percentage of your income should you put towards a mortgage?

While every borrower’s situation is different, there are some schools of thought on what percentage of your income should go towards a mortgage payment, and some guidelines on what percentage of your take-home pay is appropriate to put towards a mortgage.

28% rule

When calculating what percentage of your income your mortgage payments should be, you can apply the 28 percent rule, which is a standard that many lenders follow, says Corey Winograd, a loan officer and managing director at East Coast Capital, which has offices in 14 states.

“Most lenders follow a guideline that a borrower’s mortgage payments (including principal, interest, taxes and insurance) should not exceed 28% of their gross monthly pre-tax income,” Winograd says. “Historically, borrowers who fall within the 28% standard have generally been able to make their monthly mortgage payments comfortably.”

The 28 percent limit is based on what’s known as the front-end ratio, or a borrower’s total housing costs compared to their income.

To calculate the exact amount of mortgage you can pay within the 28 percent limit, you need to multiply your gross monthly income by 28 percent. For example, if your monthly income is $5,000, multiply $5,000 by .28 to get $1,400. This means your monthly mortgage payment will be limited to $1,400.

The 36% rule

The 36 percent model is another way to determine how much of your gross income you should put toward your mortgage and can be used in conjunction with the 28 percent rule. It’s about your income and overall debt, rather than a mortgage-to-income ratio.

This method requires you to allocate no more than 36 percent of your gross monthly income to all debts, including mortgages, student loans, car loans, other debts like credit card payments, etc. This percentage is determined using the back-end ratio or debt-to-income ratio (DTI).

“Most responsible lenders follow a 36% back-end DTI ratio model unless there are compensating factors,” Winograd says.

Based on the 28 percent and 36 percent models, you can calculate how much of your monthly income should go towards your mortgage payment. Below is a sample budget assuming the borrower’s monthly income is $5,000.

Following the 28 percent rule, the borrower should be able to afford a mortgage payment of $1,400. However, taking into account the 36 percent rule, the borrower would only be able to afford $400 towards the remaining debt payment. I’m not sure this is feasible given my financial situation.

DTI ratio: 43%

Mortgage lenders prefer that your back-end DTI ratio not exceed 36 percent, but in many cases lenders can accept up to 43 percent, which is within the range for what’s called a “conformed mortgage” (the type that Fannie Mae and Freddie Mac insure and buy from lenders).

For a conventional loan, your maximum interest rate will be 43 to 45 percent (sometimes more), assuming you meet other qualifying criteria for credit score, cash reserves, and other financial factors. For an FHA loan, it’s usually 43 percent, but it can be higher.

Calculating how much you can afford in mortgage payments with a 43 percent cap is similar to how you calculate the 36 percent cap above: simply multiply your gross monthly income by 43 percent. For example, if your monthly income is $5,000, multiply $5,000 by .43 to get $2,150. This means that your maximum monthly debt, including your mortgage payment, is limited to $2,150.

But overall, the lower your DTI ratio, the more likely you are to be approved for a mortgage. This is because having too much debt increases your risk of default. The Consumer Financial Protection Bureau reports that borrowers with high DTI ratios are much more likely to be late on their monthly mortgage payments.

25% after tax model

So there you have it, estimates based on gross income. So how much of your net income, or take-home pay, should you put towards your mortgage payment? Here we can use the 25 percent after-tax model, which is another way to consider your debt burden and ability to pay.

In this model, no more than 25% of your after-tax income goes towards your monthly mortgage payment. For example, if your monthly take-home pay (after taxes) is $4,000, you can put a maximum of $1,000 towards your mortgage payment.

This net income model may be more viable if you have something that significantly impacts your take-home pay, like wage garnishment or aggressive retirement savings. It’s also great if you want a real view of your daily cash flow.

Mortgage payments, income, and today’s housing market

As mentioned earlier, these lending standards are traditional rules of thumb. However, they are far removed from traditional times in the U.S. housing market.

While interest rates on 30-year mortgages have begun to ease, prospective homebuyers still face high home prices and low housing inventory in many parts of the country, making home buying a challenge. According to the Mortgage Bankers Association, the median mortgage payment nationwide was $2,219 as of May 2024. As a result, the percentage of household income needed to pay a mortgage has declined significantly.

Another real estate data analytics firm, AATOM’s second-quarter 2024 U.S. Home Affordability Report, found that the percentage of the average local wage consumed by major costs for a median-priced single-family home was deemed unaffordable in about 80 percent of the 589 counties analyzed.

How do lenders determine mortgage payments?

We’ve laid out some general rules, but lenders have their own way of determining what percentage of your income is an appropriate mortgage payment. Here are the main factors lenders consider to determine how much of a mortgage a borrower can reasonably afford:

• Total Revenue – Gross income is the total income before taxes and other deductions are taken into account. Other sources of income such as spousal support, pensions, rental income, etc. are also included in gross income.
• DTI ratio – Your DTI ratio is your total monthly debt obligations divided by your total gross income.
• Credit score – Your credit score is an important factor that lenders consider when assessing how much you can borrow. Generally, the higher your credit score, the lower your interest rate will be, which will impact how much you can actually spend on a home purchase.
• Career – Lenders want a steady source of income to ensure you can repay your mortgage. When you apply for a loan, you’ll be asked to provide evidence of employment (such as pay stubs) for at least the past two years. If you’re self-employed, you’ll be asked to provide tax returns and other business records.

How to reduce your monthly mortgage payment

If you’re ready to buy a home but think the mortgage-to-income breakdown will be an issue, you have a few options. Here are some ways to lower your monthly payment:

• Lengthen your mortgage term – Paying off your loan over 30 years instead of 15 will split your monthly payments into smaller installments.
• Work to improve your credit score – A higher credit score means lower interest rates, and even a small reduction in your interest rate can significantly reduce your monthly payment. Use Bankrate’s mortgage calculator to see for yourself.
• Save a large down payment – The more you put down, the less you’ll need to borrow on your mortgage. Plus, saving at least 20 percent for a down payment can eliminate the need for private mortgage insurance, which lenders factor into your monthly mortgage amount.

Other budget considerations

Cost of Homeownership

Figuring out how much of your monthly income should go toward a mortgage is a big part of buying a home, but it doesn’t end there. As any homeowner can attest, the costs of owning and maintaining a home can add up to far more than the monthly cost of a mortgage. “Homeowner association fees, utility payments, and other expenses also need to be factored into your homebuying calculations,” says Winograd.

Other homeownership costs include:

Types of mortgages

The type of mortgage you choose also plays a big role in how much home you can afford. To find the loan that’s right for you, it’s important to explore all of your options, including conventional, FHA, and VA loans. It’s also wise to find a mortgage lender that understands your financial situation, needs, and goals.

“A good loan officer will take the time to understand a customer’s current and future financial situation to determine the appropriate loan product, loan amount and loan terms,” ​​Winograd says.

Ultimately, the percentage of your income you can dedicate to mortgage payments is only one factor in finding the mortgage that’s right for you.

Conclusion

You can work with your lender to calculate what you can afford based on your income and the price of the home you want to buy, and then from there, you can evaluate whether or not you can afford it. When estimating what you can afford, remember that while there are guidelines to follow, it ultimately depends on your situation.

“There are no hard and fast rules because every borrower has different circumstances, credit profiles and debt obligations; all of this needs to be taken into consideration when determining what percentage of your gross monthly income should be dedicated to mortgage payments,” Winograd says.