My wife and I have recently been discussing purchasing a home, and in the process have become a little sticker-shocked over the local housing prices. The target amount we had in our head doesn’t translate to enough house for our family, so I went back to the drawing board to determine how much house we could afford. I found out that mortgage lenders have their own set of rules, but if followed could leave you house poor. After running the numbers, I’m starting to think there is nothing wrong with renting a house indefinitely!

The 28/36 ratio - the 28% rule. Mortgage lenders would like for your new housing payment, including taxes and insurance, to be less than 28% of your gross monthly income. That means a family earning $50,000 a year should not spend more than $1,167 on housing. That number seems a bit high to me, considering after taxes that family is probably only bringing home around $3,300 a month. When you back out other payroll deductions such as health insurance, FSA contributions, etc. that doesn’t leave much disposable income after an $1,100 mortgage payment.

• Frugal Dad’s Rule: A more conservative ratio of around 20% of monthly gross income going to housing costs would leave a larger cushion.

The 28/36 ratio - the 36% rule. In addition to the 28% rule, mortgage lenders also use a 36% debt-income ratio based on monthly income and debt expenses. Using our same $50,000 a year family as before, their total debt payments each month (including the new mortgage) should not exceed 36% of their monthly gross income, or $4,167. If our family fully maximized the 28% rule and took out an $1,100 mortgage that would only leave $400 in additional allowable debt payments to stay under the 36% rule. A couple credit card payments and/or a significant car payment could easily push them over the 36% rule.

• Frugal Dad’s Rule: In this case I actually like to use the mortgage lenders 28% rule for the total amount of debt you should carry, including your house payment. Revising the 36% debt-income ratio down to 28% forces you to either look for a much cheaper home, save up for a larger down payment, or become debt free before buying a home. In either case, you will have more money left over each month to finance your remaining financial goals by following Frugal Dad’s maximum mortgage calculator.

Using a mortgage calculator is a quick and easy way to help you determine your mortgage payments.

Technorati Tags: purchasing a home, Mortgage

A couple days ago I wrote about the possibility of an upcoming tax rebate as part of a broader economic stimulus package. After learning more about the stimulus package, and the state of the U.S. economy I am more convinced than ever that the tax rebate checks will be monumental failure. The money spent on tax rebates could be better spent providing a backstop for the market where it really needs it, the mortgage insurance industry.

Mortgage insurers are in a precarious position, and their downfall will be our own. The proposed $250 billion tax rebate will do little to spur the economy because of the overburdened position of the American consumer. People have borrowed up to their eyeballs (and beyond) on credit cards, mortgages and home equity lines of credit for the last several years. Many of these people could ill-afford such debt load, so lending companies loosened the requirements, allowing hundreds of thousands of otherwise financial deadbeats to assume much more than they could afford. Mortgage insurers underwrote those mortgages and enjoyed several years of growth in their own industry thanks to these relaxed lending requirements and an overall boom in the residential real estate market.

For the same reasons mortgage lenders enjoyed such success, they may now become their downfall. It appears our government is doing little to prevent their inevitable demise. Tax rebate checks sent to a financially irresponsible constituency will likely be wasted on frivolous purchases such as Ipods and plasma televisions. The more frugal of us may use the rebate to boost our emergency savings or whittle away some credit card debt. Neither scenario provides any relief for the mortgage insurance industry, or Wall Street as a whole.

A run on the insurance companies will lead to a trickle down effect ultimately creating depression. Just as life insurance companies don’t expect hundreds of thousands to file a claim on the same day, mortgage insurers were not prepared for such a monumental decline in the housing market. Declining home values combined with historic foreclosure rates have left banks holding the bag and looking to mortgage insurers to cover the gap. If these insurers go belly-up banks could be stuck with astronomical losses in their mortgage divisions, creating a ripple effect through the entire financial sector. The negative sentiment would gain momentum leading to massive withdrawals from financial institutions. With a lack of significant amounts on deposit, many small, regional banks would no longer be able to offset their lending write-offs, causing many to close the door leading to massive layoffs, decreased spending, decreased production and manufacturing, and increases in inventories. Sound familiar? It does if you were alive in 1929.

How could the government save the financial sector? By taking the $250 billion it is prepared to send taxpayers and use that money to guarantee the solvency of the large, private mortgage insurers. Similar to previous bailouts (airline industry, etc.) the government could essentially guarantee these insurers ability to make good on their policies by infusing the $250 billion “rebate money.” The mechanics of such a plan are debatable, but would probably center around the government “buying the books” from these insurers and in turn issuing government bonds to offset the loss in capital as these policies are made good. The confidence gained on Wall Street from such a move would likely preserve existing capital in investments in financial companies. Coupled with a full basis point cut in interest rates (these are long overdue) the market would roar, and could be pulled back by modest increases to interest rates at a later time.

Politics will probably win out, at great costs. Lawmakers on both sides of the aisle will see to it that the tax rebate program is pushed through, and any attempt to use the funds for more long-term benefits will be scuttled. Why? Because politicians are interested in one thing - staying in office. How many members of Congress would actually have the guts to tell their constituents that they are voting down the tax rebate plan so an alternative stimulus package centered around protecting the solvency of mortgage insurers could be put in place? Zero. The average American is only interested in one thing, a short term rebate they can use to replace that old sofa with a leather couch, or that old tube television with a shiny plasma model. The short term gains to their bottom line could soon be wiped out from a financial market meltdown that erodes their retirement savings to next to nothing. Seems like a high price to pay for a new television.

Rebuild.org can provide a great quote on mortgages, visit today for a no obligation quote.

Technorati Tags: economic stimulus package, tax rebate checks, mortgage insurance industry, credit cards