- The Washington Times - Thursday, May 20, 2004

When you read or hear about the calculation of monthly payments to buy a home, most times the writer is using a 30-year, fixed-rate mortgage program to arrive at the payment amount.

It’s the popular program out there, so you see it used consistently.

The buying-power affordability process starts something like this:

The mortgage professional will go through your monthly finances, starting with your income. Then he or she will go down your monthly installment payments on debt — car loan, credit cards, student loans and any other mortgage or financed debt (not utilities, food or gas expenses, unless, of course, you’re paying for those items on a credit card).

Once he tabulates these numbers, he’ll come up with a ratio of monthly payments against the level of income. If you make $5,000 per month and your debt is $1,500, you would have a debt-to-income ratio of 30 percent (meaning 30 percent of your income goes toward monthly debt expenses).

Most loan programs will allow your monthly debt for a house to be 28 percent. When you add up all the other monthly payments, that ratio can rise to 36 percent without affecting your ability to borrow money.

There are nontraditional programs that lump all your debt into one number. Instead of a 28/36 program, they just say not to exceed 40 percent for everything. This gives the buyer a lot more flexibility when it comes to the cost of housing in an expensive area.

If you want to increase your buying power dramatically — by almost 100 percent in some cases — you should begin to look at nontraditional financing that includes lower, adjustable interest rates and even interest-only products.

To compare your buying power with these types of programs, start with your budget. How much are you comfortable spending, and what stays within the industry standard? For this demonstration, we’ll use $1,000.

Thus, the stabilizing factor will be a $1,000 monthly payment, and I’ll shift the other numbers. I’ll also be using interest rates commonly available last week. Totals are rounded to the nearest $100.

• A 30-year, fixed $1,000 payment at 6.125 percent borrows $164,600.

This is the most popular loan program because it allows the most money to be borrowed with the most stable payment budgetable.

• A 15-year, fixed $1,000 payment at 5.5 percent borrows $122,400.

As you can see, your buying power drops substantially. However, for the debt-averse buyer, it eliminates the mortgage in half the time as a 30-year program.

• A one-year adjustable-rate mortgage $1,000 payment at 3.75 percent borrows $215,900.

Right now, this mortgage can really bump up your buying power, but you lose the stability of the payment remaining the same year after year. The interest rate will adjust each year on the anniversary date of your mortgage.

• A 5/1 ARM interest-only payment of $1,000 at 4.875 percent borrows $246,200.

This is not for the financially weak of heart. The interest-only loan means exactly that — you’re paying only interest on the $246,200 for the loan.

This program should only be used in a marketplace where you are experiencing substantial and historically sustained equity growth.

Otherwise, it could result in your being upside-down in your loan — owing more than your house is worth. Nevertheless, some folks like it for the buying power it presents, and they believe the equity growth in the sales market is enough to justify the program.

If you want to pump up your buying power as interest rates keep edging up with a growing economy, adjustable-rate mortgages and other low-interest-rate programs can do just that.

For those who wrote in about finding a 40-year program, discussed in a previous Clicks & Mortar column, talk with mortgage brokers, rather than bankers.

The brokers will have more programs available and will enable you to find the 40-year program.

M. Anthony Carr has written about real estate for more than 15 years. Reach him by e-mail ([email protected]erols.com).

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