What Percentage of Net Income Should Go To a Mortgage?

Sumedha Shukla
August 31, 2023

When buying a home, setting a budget can often end up being tricky. This is especially true when determining what the budget should be in the first place. Even if you have a high down payment saved up, there will still be monthly mortgage payments. Planning for these payments is essential, including making sure that the monthly amount is something you can comfortably afford alongside other life expenses.That’s why it’s very important to know what percentage of your net income should go to mortgage payment to make it affordable.

Most financial experts recommend considering your overall budget and expenses when planning your mortgage payment. But there are variations around what percentage of your total budget should go toward your mortgage payment.

We’ll go through the key things you need to know about what percent of income should go to a mortgage and the other factors you should consider when calculating housing costs to make sure it’s the right decision for you.

What is a mortgage payment?

Before going into what percent of income should go to a mortgage, let’s take a step back to understand the different components of a mortgage.

A mortgage is a type of home loan, and when you purchase a home with a mortgage, you will be expected to make monthly payments to pay back the loan, which includes the principal and interest – and in some cases, taxes and insurance.

Before committing to a mortgage payment, it is essential to take into account all your current expenses and current total monthly debt, including credit card payments and student loan expenses.

Couple in living room is calculating the percent of their net income that should go to a mortgage.

How much of your net income is currently dedicated to these expenses, and how much do you have left over once these expenses are accounted for?

That will help you determine a potential amount of money you could comfortably spend for your monthly mortgage payment. Identifying that number also makes it easier to evaluate home prices since you will roughly know what you can afford to pay per month.

Let’s look at the individual components of mortgage payment in more detail.

How To Calculate Mortgage Payments

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Mortgage Principal

Mortgage principal refers to the amount of money borrowed when taking out a mortgage loan. The principal is the loan amount itself, without adding interest or other costs. The mortgage principal is the key figure to look at when deciding what percentage to allocate toward your mortgage since the principal will make up the bulk of the monthly payment.

Mortgage Interest

Mortgage interest is the amount borrowers pay to the mortgage lender in exchange for the home loan (the principal). Mortgage interest is paid monthly and calculated as a percentage of the total amount borrowed. It can also vary based on the amount of money borrowed and the length of the mortgage.

After the mortgage principal, the mortgage interest will be the next big chunk of the monthly payment, which is why factoring in interest rates to the total you will be paying each month is so important.

Real Estate Taxes

Homeowners pay real estate taxes on the property they own. Real estate taxes are calculated based on the property’s value, but there may also be other state or federal tax implications to consider. Property taxes are often included within the mortgage payment, and part of the monthly payment will go toward paying taxes on the owned home.

Private Mortage Insurance

The final component in a mortgage payment is insurance. Private mortgage insurance (PMI) may be required in some instances by mortgage lenders, e.g., when a lower down payment is made, and the loan amount itself is quite high.

How much should I spend on a house? 

Now that we’ve looked at the different parts of a mortgage payment, the next big question is how much to spend on a home.

The amount you spend on a home largely depends on your financial circumstances, long-term financial goals, and current debt-to-income ratio. So when looking at home prices, think about your mortgage-to-income ratio and what that could look like. 

How much can you comfortably spend on a mortgage once you account for your current expenses and savings? What does your long-term income projection look like, and do you feel confident you can make the payments long-term? These are just some questions to consider, especially as you move forward in life and have other responsibilities and expenses come up. 

What is your Debt to Income (DTI)?

One of the main metrics that mortgage lenders will evaluate mortgage applications against is the debt-to-income ratio. Debt-to-income ratio is calculated by calculating how much money you owe through debt, such as credit cards and students, vs. how much money you make.

The DTI metric is a crucial part of the mortgage evaluation process as that is how mortgage lenders will decide whether or not you will be able to afford your payments and make them over time.

A high DTI signals to lenders that you have too much debt relative to your income, and that poses a risk when it comes to being able to make your monthly payments.

Different lenders will have varying criteria on what is considered a high or low DTI, so make sure to shop around when seeking a mortgage. You can also use a debt-to-income calculator to figure out your DTI and start developing strategies to lower your debt-to-income ratio to put you in the best position possible for a mortgage.

Debt-To-Income Ratio Calculator

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How to Lower Mortgage Payments?

Other options are available if you have a high DTI score, or your current financial situation does not fit with the different percentage breakdowns described above. You can take some measures to lower your monthly mortgage payment and make it more affordable for you.

Improve Your Credit Score

Increasing your credit score is one way to reduce your monthly mortgage payment. Mortgage payments tend to be higher for those with low credit scores as a way for lenders to mitigate some of the borrowing risk. However, mortgage lenders are more likely to offer better loan terms with a higher credit score.

Lengthen Your Mortgage Loan Term

Another option is to lengthen the mortgage loan term to reduce your monthly payment. Lowering a mortgage loan term can be a great option to reduce monthly payment amounts to something more manageable without making any dramatic changes. Lengthening your mortgage loan term may lead to paying more interest over time, but your monthly payments will remain more affordable comparatively.

Use A Larger Down Payment

You can also reduce your monthly payments by putting down a larger down payment. By putting down a larger down payment, you reduce the principal you borrow from a mortgage lender, which means your monthly payments will be lower overall.

Lower Your Purchase Price

When looking at homes, it’s generally a good idea to look at houses at various purchase prices so you can determine the best option for you. If the higher price points mean you will have a higher monthly payment, it might be worth lowering your purchase price to find a home where the payments will be easier to make long-term.

Shop Interest Rates

Lastly, of course, it’s crucial to shop around and evaluate different mortgage options before selecting one. Mortgage lenders have varying qualifications for lower interest rates, so doing a bit of due diligence on what lenders require and who is offering the best terms could help you lower your monthly payment.

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The percentage of net income you allocate toward a mortgage will depend on your financial circumstances and what you are comfortable with. But by proactively seeking measures such as lowering your DTI and improving your credit score, you can start working toward a lower monthly mortgage payment.

Loans have different DTI qualification standards, and lenders and requirements are different, so it’s important to take the time to compare other options before making a decision.

You can also use tools such as a DTI calculator and a home affordability calculator to run different scenarios based on home prices and better understand what you could pay per month for your mortgage.

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