Understanding the Financial Metrics of a Home Purchase

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As a real estate professional I have to remind myself on a regular basis that, over time and with experience, the basics of mortgage finance become intuitive to us. Most of us can rattle off, almost without thinking, the monthly payments of any principal amount. But our clients do not have the same bank of experience and many people are not comfortable with numbers. Remember all your friends that failed elementary algebra? And although we are familiar with any number of lender’s websites and know all the front end and back end income and expense ratios that are used to determine weather a consumer qualifies for financing, the fact is that our clients don’t. “It’s Greek to me,” is the look that I see in many clients’ eyes when I start asking about their personal finances. That’s why I quickly pass them along to a mortgage broker.

Budgets are not the sole domain of the Government
As mentioned above, it’s unlikely a client will understand the financial metrics as would a real estate or mortgage professional. However, I am still amazed when somebody comes into my office and asks me how much they can afford. This question, which, incredibly, extends to all socioeconomic groups, speaks volumes about the clients’ lack of perception when it comes to understanding or maintaining a personal spending budget. They simply have no idea as to what it costs to maintain their personal lifestyle. That is not to say that I cannot run the raw numbers they give me to see whether or not they meet the ratios of a particular lending program, but this is not analyzed in the context of their overall personal budget. While I crunch the numbers to show them the disposable income, it is the client’s responsibility to understand how that impacts their current lifestyle and spending patterns.
How the Mortgage Payment is constructed
Within the mortgage marketplace all the available programs, in spite of their claims and promises, come down to the same concept: the terms under which you are borrowing money from a creditor. Simply stated, there are three variables involved; principle amount, a predetermined period of time, and an agreed upon interest rate. This equates to a monthly payment to you that needs to be serviced every month. Now, we all know that some very exotic programs crept into the market place toward the end of the bubble, but none of them redefined how a mortgage payment is calculated. Many real estate websites have links to mortgage calculators to help eliminate the need to fully understand the math behind the concept. So, if you cannot calculate the payment yourself, you need to consider whether or not you have the understanding that you need in order to commit to taking on the debt.

Understanding the terms
There are many programs available to a qualified borrower. For the most part, they distill down to fixed or adjustable options. If it is a fixed rate mortgage you have secured an interest rate for the entire term of the loan and it does not change. If it is an adjustable rate mortgage the rate and payment change at some point in the loan term based on market conditions. This adjustment is what a home owner has to be very aware of. There are limits to how large an adjustment can be made but they should be reasonably certain that their income will grow enough to take on the increase in the mortgage payment. These terms are clearly expressed on all of the documents involved in the loan process. It is your responsibility to fully understand the specifics. After all, you own this loan once you sign on the dotted line.

Which Lender Should I Use?
While this does not seem important as most lending programs are very similar, I would suggest that it is one of the most important steps of all. The right lender considers it his or her personal responsibility to make sure that all the details are in place and that their clients fully understand all the options. In the end, you need to look at a home purchase, or any financial decision, in terms of how it impacts you. Like the ripples from a stone thrown into a pond, the effects of committing to a mortgage can influence your quality of life and financial future. Providers of credit and financial services will and do assist you in evaluating your choices, but it is in their interest for you to move forward. Because of this, it is your responsibility and duty to yourself and your family to ensure that there are no knowledge gaps and that the purchase is the best decision, long term, before you sign on the dotted line.
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