How We Calculate Your Home Buying Power with Clara

Published on May 26, 2017

– 6 min read

It’s important to know you buying power

Understanding your buying power is a major step in the home buying process. Getting an accurate assessment of your affordability is important – it guides your home search process, and helps avoid the headache of making an offer on a home that you can’t afford. To help our home buyers, we’ve created a tool that will quickly and easily estimate your purchasing power in just a few seconds.

 

How it works

When considering a home loan, you have the option to choose your down payment amount, the length of the loan term, the amount of closing costs you’re willing to pay, and a bunch of other characteristics. Finding the best combination of these criteria to calculate your maximum buying power is hard – even seasoned loan officers can have difficulty calculating these scenarios by hand.

Because Clara is built using modern technology, we can take all of these variables and, using your financial profile information, search thousands of possible loan options to estimate your buying power.

Our algorithm starts by considering a large search space, with a high maximum purchase price (in the millions!) and a low purchase price (near 0.) We search over and over again, narrowing the range of possible purchase prices in increments of $5,000 until we settle on an amount that roughly estimates your maximum buying power.

 

What affects buying power?

Your buying power is based on the financial information you provided, your credit score, the location where you are interested in buying a home, and the type of home you’re considering.

Debt to income ratio

To understand your buying power, it’s important to understand your debt-to-income ratio (DTI). Your DTI is your total debt payments divided by your gross income. So if you have $500 in monthly debt payments, and you make $5,000 every month, your DTI is ($500 / $5,000) = 10%.

When applying for a mortgage, your new housing payment will be included in your debt-to-income ratio. This will include your mortgage payment, as well as property taxes, homeowners insurance premiums, HOA dues, and mortgage insurance premiums.

We estimate your buying power using the CFPB recommended debt-to-income ratio of 43%. Using this limit, we ensure that all of your debt payments are less than 43% of your gross monthly income. For many borrowers, this is the limiting factor when it comes to determining affordability.

In some cases, you may qualify for a mortgage with a DTI ratio of up to 50%, but we use the limit recommended by the CFPB so we can provide a conservative estimate of affordability for all home buyers. If you are interested in a home that is more expensive than your estimated buying power, you can chat with a Loan Specialist  to see if you qualify for a loan with an increased debt-to-income ratio.

Financial profile

Your buying power is largely driven by the financial profile for the loan – this means both your financial situation as well as that of any co-borrowers you may have on the loan. The major points of consideration are:

  1. Income – Lenders and regulators are most concerned about your ability to repay the loan, so income is a major point of consideration when qualifying for a loan.
  2. Assets – You’ll need some assets for your down payment, to cover closing costs, and potentially for reserves after closing your loan.
  3. Debt – Housing expenses are only part of your overall budget. Lenders and regulators want to make sure you can afford the rest of your obligated expenses, like auto loans, credit card payments, or student loans. Items such as your cable bill and utilities are not counted as part of your debt.
  4. Down payment – How much cash you decide to put towards your down payment can affect your purchase price. Generally the less you put down, the higher your monthly payment, and the lower your buying power
  5. Credit score – While your credit score doesn’t impact your buying power directly, it does affect the interest rate you qualify for. That interest rate can have a major impact on the monthly payment amount, and can affect your affordability as a result.

To learn more about how your financial profile affects your home buying power, check out our article on the 5 Factors That Affect Home Affordability.  

Property type and location

The type of home you are shopping for, as well as the location of the property, can have a large impact on your buying power.

For conventional loans, there are loan limits that are set at the county level. These loan limits could have a large impact on your affordability – to learn more, you can chat with a Loan Specialist or find the loan limit for your county using the below map, also available on FHFA’s website.

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Properties with a homeowners association generally have a monthly fee that is used to cover shared expenses. In the case of a condo, your homeowners association (HOA) dues could be used to cover the cost of maintenance expenses for things like your shared roof, painting the exterior of the building, or shared amenities like a pool.

It’s important to note that the monthly amount for HOA dues can vary wildly, but can often cost hundreds of dollars a month. These dues are included in your debt-to-income ratio, and affect your buying power accordingly.

Choosing a loan option to present

Once we determine your estimated buying power, we search through the eligible loan options to find a fixed rate loan option that will provide you the maximum estimated buying power based on loan amount, closing costs, and monthly payment amount.

. We choose which loan option to present based on 5 factors:

 

  1. Eligibility – We want to make sure you are eligible to pre-qualify for the loan we present.
  2. Affordability – The loan option we present will meet the estimated buying power we’ve calculated
  3. Risk – To avoid any potential risks associated with a changing interest rate environment, we only present loans with a fixed interest rate.
  4. Closing costs – We try to find loans that have reasonable closing costs with little, if any, buying down of points. To learn more about what it means to buy down points on your loan you can click here.  
  5. Monthly Payment – To save our customers money, we choose a loan that meets all of the above criteria and features the lowest monthly payment.

 

Assumptions & disclaimers

To estimate your buying power, we have to make a few assumptions:

  • Minimum down payment of 5% of the purchase price.
  • Your monthly debts, including your estimated mortgage payment, do not exceed 43% of your gross monthly income.
  • Annual property tax payments estimated at 1.25% of the purchase price.
  • Annual homeowners insurance premium of $1,000.
  • Monthly HOA dues of $300 for condos.
  • Does not include flood insurance premiums for properties located in a flood zone.
  • Buying power is based only on loan programs offered by Clara.We offer a maximum estimate of $1,500,000 for this tool.

The estimated buying power is based on your buying power with Clara and is therefore limited to the loan programs offered by Clara.  Even though you may qualify for a certain loan amount or type, it may not be suitable for you.  The estimated buying power calculation is not intended to provide specific financial or other advice, and should not be relied upon in that regard.

Aaron LaRue
Aaron LaRue is a consumer product manager at Clara. He has encyclopedic knowledge of mortgages, loves camping, and is a TV junky. He originally hails from Los Angeles.
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