How Much Mortgage Can I Borrow from a Lender?

I want to take a break from posting credit Q&A topics to address what I feel is another important (and related) topic. By reviewing the questions sent in by readers, I know that many people want to know how much they can borrow for a mortgage loan.

This is a natural question to ask, but it's not something I can tell you. Only a mortgage lender can tell you how much you can borrow from them. Instead, I want to make a point that many home buyers seem to overlook these days. Without further ado, here's the general thesis of this blog post:

A mortgage lender can only tell you how much you qualify to borrow. They cannot tell you how much you can afford to borrow.

There's a big difference between "qualify" and "afford," when it comes to mortgages. But a lot of home buyers don't realize this. In fact, it's one of the primary factors that led to the foreclosure crisis that wrecked our economy in 2008. Here's what happened in most cases:

1. The home buyer approached a lender about a mortgage loan that was more than they could afford.
2. Instead of denying the loan (which is what they should have done), many lenders found a way to offer the unaffordable mortgage to the borrower.
3. Lenders would often make the loan more affordable -- initially -- by offering an hybrid ARM loan with a low interest rate for the first three years or so. These are called "teaser rates" for this very reason.
4. After the initial fixed-rate period, the loan would adjust. And the homeowners would see their payments increase significantly, sometimes even doubling in size.
5. The rest is history. We had record-breaking numbers of foreclosures in 2008 and 2009, largely due to this type of lending practice.
   

In these scenarios, people are inclined to place all of the blame on the mortgage lender. Not me. I put most of the blame on the borrowers who knowingly took on more than they could afford to pay back each month. But this isn't a blame session. This is an advice column. So let me get back to the point.

Asking a lender how much mortgage you can borrow is the wrong strategy. They can tell you how much they're willing to loan you, based on your credit score, your income and other factors. But they can't tell you how much you can afford to borrow.

Now you might be thinking, "Why would a lender put me into a loan they know I won't be able to afford down the road? Don't they lose out on that too?" Not necessarily. We have a thing known as the secondary mortgage market in this country, where lenders can package up their loans and sell them off to other organizations (such as Freddie Mac). These mortgage-backed securities will then be sold again through Wall Street. So a lender can make a bad loan and suffer no future repercussions at all. It's a broken system, but it's the system we have right now.

Now you can see why it's so important to look out for yourself. Before you even contact a lender for a quote, you need to determine how much mortgage you can afford to borrow by establishing a budget. You might not get approved for that amount, but at least you'll have a realistic number in mind based on affordability.

On the mortgage calculators page of our website, you'll find some tools that can help you determine your home buying budget. There are also some instructions on the same page that tell you how to handle the process.