Another finance secret finance professionals won’t tell you (but I will)

One of the more successful finance posts I have on my blog is a finance secret I shared that industry professionals wont. You can find that post here.

Today I have another secret for you, it’s not a true secret as its not actually hidden but unless you are astute in finance you aren’t necessarily going to catch it. It has to do with mortgages, which in the U.S. right now is a hot finance topic. House prices in the U.S. have risen over the last 3 years anywhere from 8-25% depending on what market you are in.  House prices traditionally do not go down, they level off. If we look at a 100 years of house price data, we can only find 2 years where the median average price drops in comparison to the prior year. Again, this is largely aggregated meaning a market like Manhattan is an extreme, a rural town in Montana might be an extreme as well but on average that is where it stands.

So what is the secret? When you go for a mortgage your ability to borrow money is based on your GROSS income, not your net. It’s a trick banks use to be able to lend you more. So your ability to borrow is based on the amount you earned, not the amount you actually have to spend. The bank/lender does not account for health insurance cost, taxes, child support on and on. The good news is people who would otherwise not qualify for a mortgage can based on their gross income.

Borrowing the max amount, is a foolish move.

The bad news is exactly the same as the good, you can qualify for mortgages you would not have the ability to afford because it was based on your gross income, not your net. So you get situations where people borrow too much, you get terms like “house poor” because most of your income goes to paying your mortgage. The kicker? (well there is two) you pay for the privilege to borrow more than you can afford via interest. The other? You pay for PMI (Private Mortgage Insurance) which essentially protects the lender if you cannot pay the mortgage THEY gave you. You know the one they based on your gross not your net.

No lender is going to tell you it’s too much house, unless its WAY overpriced for your income. You have to be the one who figures this out. You need to estimate the mortgage payment and look at how much you actually TAKE HOME a month. You don’t want your mortgage payment to be more then 25-35% of your take home pay. Additionally, you don’t want a 30-year mortgage if you can absolutely avoid it because the interest alone is a killer. Banks want to lend you money, that’s how they make THEIR money via interest. It’s a tough real-estate market out there you have to be extra careful.

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