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The 28/36 rule is a financial rule of thumb that measures a borrower’s ability to pay off their mortgage by evaluating their financial health.
The rule advises households to limit their spending on housing expenses to under 28 percent of their gross monthly income and their spending on all debt to under 36 percent of their gross monthly income.
This suggestion is particularly important for households planning to take on a mortgage, as lenders use it to decide if they will extend credit to borrowers.
Front-end ratio: the 28 percent
The front-end ratio, or the housing expense ratio, is a ratio that describes how much of one’s income goes toward housing payments. It is calculated by dividing housing expenses by gross income and should make up under 28 percent of total monthly income, according to the 28/36 rule.
You may be wondering what constitutes a housing payment. The following list details everything included in this category:
- Mortgage payments: This constitutes both how much money you borrow (principal) and the interest you pay on that borrowed money.
- Property taxes: It’s important to be aware of how high your area’s property taxes are, as they can vary drastically from locale to locale.
- Insurance: This includes both homeowner’s insurance and any added insurance on your house (tornado, earthquake, flood, etc.).
- HOA dues: Homeowner’s associations charge monthly dues. If you live under an HOA’s jurisdiction, be sure to add them to the equation.
You might have noticed that utility bills, internet and cable TV services are not listed. Although they are typically grouped under the umbrella term of “housing expenses,” they aren’t part of the calculation that lenders make to determine your financial health.
To better visualize the front-end ratio, imagine you have a gross monthly income of $4,500 per month ($54,000 annually). Every month, your mortgage payments come out to $1,250, your property taxes are $200, and your homeowner’s insurance costs $100. You don’t live in a neighborhood with a homeowner’s association, so there are no HOA dues.
Added together, your housing payments come out to $1,550. Divide that by your monthly income ($4,500), and you have a front-end ratio of 0.34, or 34 percent. Because it’s more than 28 percent, this would signify that you should pursue additional income, move somewhere that is less expensive to live or both to have a chance at a decent mortgage.
Back-end ratio: the 36 percent
The back-end ratio, represented by the “36” in the 28/36 rule, is the ratio measuring how much of one’s income is used to pay off debt every month. This encompasses mortgage payments, student loans, car loans, credit card debt and all debt in between.
It’s calculated by dividing the amount of monthly debt owed by gross monthly income.
Since child support and alimony payments are also included, it’s important to take a comprehensive look at all of your expenses in this category to ensure you fall below the 36-percent threshold before taking on any additional debt.
Imagine you have a gross monthly income of $3,500 per month ($42,000 annually). You haven’t accrued credit card debt, but your car loan and student loan payments come out to a monthly total of $600. Divide your total debt ($600) by your monthly income ($3,500), and your back-end ratio totals 0.17, or 17 percent.
How does the 28/36 rule affect my ability to get a mortgage?
If taking out a mortgage would cause your front-end ratio to go above 28 percent, or your back-end ratio to go above 36 percent, then it will probably be difficult to get the high mortgage loan and low APR you were hoping for. You may still qualify for a mortgage, but the lender will likely turn down your initial request and offer a smaller amount.
The 28/36 rule is just one of many factors that go into determining your ability to get an ideal mortgage. These factors determine the size of your loan, and thus what percentage of income should go to mortgage payments. They include:
- Credit score. Your credit score has a major impact on your mortgage rate. Lenders rely heavily on borrowers’ credit scores to determine their risk whenever considering whether to lend money. This holds especially true for a very large purchase like a home.
- Income. Whether you plan to take on a new mortgage or refinance a current mortgage, your income has an impact on your lender’s willingness to help out. A higher income communicates a better ability to pay off a mortgage, so we recommend pursuing a side income if your income won’t impress lenders as it stands.
- Size of down payment. Similar to income, larger down payments on a house (20 percent and higher) send a positive message to lenders by positively impacting both your front- and back-end ratios. It’s worth taking extra time to save up to put down a larger down payment.
Exceptions and special considerations
While the 28/36 rule tends to be the gold standard for winning lenders’ trust, this rule primarily applies to conventional mortgages. If achieving these ratios doesn’t feel realistic at the moment but you’re serious about buying a home soon, you should be aware of other types of mortgage loans that are an exception to the rule.
Aside from having an excellent credit score and making a larger down payment, you may qualify for a government-insured mortgage. For example, the Federal Housing Administration (FHA), the U.S. Department of Veterans Affairs (VA) and the U.S. Department of Agriculture (USDA) all offer mortgages that allow for approval at higher front- and back-end ratios. If your home is energy efficient, it may further increase your ratio’s threshold.
Type of mortgage | Front-end ratio | Back-end ratio |
---|---|---|
Conventional | 28% | 36% |
FHA | 31% | 43% |
FHA (Energy-efficient home) | 33% | 45% |
VA | N/A | 41% |
USDA | 29% | 41% |
In addition to alternative mortgage options, it’s important to consider what type of loan you want to pursue, whether it’s a home equity loan or a line of credit.
How you’re going to buy a home is one of the most significant life decisions to make. As such, we cannot overstate the importance of doing your due diligence ahead of time. From improving your credit score with the help of a credit monitoring service to paying off debt, there is a wide variety of ways to practice good personal finance in order to qualify for the mortgage you want.
Reviewed by Vince R. Mayr, Supervising Attorney of Bankruptcies at Lexington Law Firm. Written by Lexington Law.
Vince has considerable expertise in the field of bankruptcy law. He has represented clients in more than 3,000 bankruptcy matters under chapters 7, 11, 12, and 13 of the U.S. Bankruptcy Code. Vince earned his Bachelor of Science Degree in Government from the University of Maryland. His Masters of Public Administration degree was earned from Golden Gate University School of Public Administration. His Juris Doctor was earned at Golden Gate University School of Law, San Francisco, California. Vince is licensed to practice law in Arizona, Nevada, and Colorado. He is located in the Phoenix office.
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