There IS a magic formula for deciding how much you can afford to spend on your next home! It’s called your “debt-to-income ratio”, a general calculation lenders use to determine how much money they will lend you. They calculate it by first adding up the total of your monthly debt payments, including mortgages, car or student loans, alimony and/or child support, and credit card payments. Then, they divide that number by your monthly gross income (pre-tax) to get a percentage.
Most lenders limit their approvals to customers with ratios of around 36% or less, though some may still offer you a loan if your ratio is 40% or higher. (That doesn’t necessarily mean you should take it, however!) They also consider other variables, such as profits from current home sales, your credit history, closing costs, and any available cash you have saved for the down payment, when deciding how much they will lend you to buy your home.
Knowing these numbers in advance, you can use a mortgage calculator to determine the home price you can best afford, and then start looking for homes that you’ll be able to secure a mortgage for with greater confidence. Even better, you can get pre-approved for a mortgage, which often gives you an advantage over others when submitting an offer to the seller.