Affordability
Definition of "Affordability"
The definition of affordability in real estate is simply a buyer’s capacity to afford a house. Affordability is usually expressed in terms of the maximum amount a buyer will be able to pay for a house, and subsequently be approved for a loan in order to pay this amount. In real estate, this is known as the maximum affordable sale price, and it can be empirically calculated with relative ease.
To calculate the maximum affordable sales price, you’ll need to take into account three different metrics by which the maximum affordable sales price is calculated. These are the income rule, the debt rule and the cash rule. After calculating each of these numbers, affordability will be the lowest of the three. Let’s take a closer look at each of these rules in turn, and see exactly how they come into play in calculating the maximum affordable sales price.
The Income Rule in Affordability
This rule states that a borrower's monthly housing expense (MHE), which is the sum of the mortgage payment, property taxes and homeowner insurance premium, cannot exceed a percentage of the borrower's income specified by the lender. Once you’ve calculated a buyer’s MHE, you have their maximum affordable sales price according to the income rule.
The Debt Rule in Affordability
The debt rule says that the borrower's total housing expense (THE), which is the sum of the MHE plus monthly payments on existing debt, cannot exceed a percentage of the borrower's income specified by the lender. Once calculated, this number is often lower than the number that you might arrive at using the income rule, making it essential for calculating the maximum affordable sales price.
The cash rule in Affordability
The required cash rule says that the borrower must have cash sufficient to meet the down payment requirement plus other settlement costs. When the cash rule sets the limit on the maximum sale price, the borrower is said to be cash constrained. This number can be raised by lowering the down payment.
Popular Mortgage Terms
Total costs charged to the borrower that must be paid at closing, by the borrower, the home seller, or the lender. In dealing directly with a lender, settlement costs can be divided into ...
Mortgages delivered using the Internet as a major part of the communication process between the borrower and the lender. ...
Points paid by a lender for a loan with a rate above the rate on a zero point loan. For example, a lender might quote the following prices: 8%/0 points, 7.5%/3 points, 8.75%/-2.5 points. ...
Inserting provisions into a loan contract that severely disadvantage the borrower, without the borrowers knowledge, and sometimes despite oral assurances to the contrary. Prepayment ...
A government-owned or -affiliated lender that makes home loans directly to consumers. With minor exceptions, government in the U.S. has never loaned directly to consumers, but housing banks ...
Also called variable or flexible rate mortgage, an adjustable rate mortgage (ARM) is a mortgage where the interest rate is not constant, but changes over time by the mortgage lender. ...
An independent contractor who offers the loan products of multiple lenders, called wholesalers. Mortgage brokers do not lend. They counsel borrowers on any problems involved in qualifying ...
The rate charged the borrower each period for the loan of money, by custom quoted on an annual basis. A mortgage interest rate is a rate on a loan secured by a specific property. ...
The initial interest rate on an ARM, when it is below the fully indexed rate. ...
Have a question or comment?
We're here to help.