When purchasing a home or any other major purchase, it is important to figure out what you can afford on a monthly basis to avoid future financial problems.

There are two steps to figuring out what this number is.

1. Calculate Monthly Income
2. Determine your debt-to-income ratio

Get Your Monthly Income

• Start by calculating your income on a monthly basis.Employees that are on a static salary bi-monthly just multiply the total by two.
• For hourly employees, employees on commission, and self-employed, look at your tax documents for the previous two years (W2 Form if employed by someone else, and 1099 if self-employed)
• The general rule for regular employees is to add the income on W2 forms for the past two years, add them together and divide by 24 for your monthly income.
• The general rule for self-employed is to look at the Schedule Cunder the profit section of your tax return for past two years for annual income, add together and divide by 24 for monthly income.
• Only count income that can be documented on paper (that is the only income lenders count).

Debt-to-Income Ratio

• There are two ratios involved in this formula, the front and back ratios. The front ratio is the percentage of the monthly gross income before taxes used to pay for housing which includes any insurance, taxes and sometimes homeowner's fees. The back ratio is similar but also includes monthly consumer debt.
• Typically the mortgage payment takes up about 33% of monthly income. By adding the monthly debt to the housing costs it should be about 38% of income to meet those requirements.

These are just general guidelines.The larger the down payment, the more flexible these guidelines become.