How to Prequalify a Buyer When You Sell Your Home By Owner

One questions many "for sale by owner" sellers ask is "how can I determine if a potential buyer can afford to buy my house?" In the real estate industry this is referred to as "pre-qualifying" a buyer.  You might think this is a complex process but in reality it is actually quite simple and only involves a little math.  

Before we get to the math there are a few terms you should understand.  The first is PITI which is nothing more than an abbreviation for "principal, interest, taxes and insurance.  This figure represents the MONTHLY cost of the mortgage payment of principal and interest plus the monthly cost of property taxes and homeowners insurance.  The second term is "RATIO".  The ratio is a number that most banks use as an indicator of how much of a buyers monthly GROSS income they could afford to spend on PITI.  Still with me?  Most banks use a ratio of 28% without considering any other debts (credit cards, car payments etc.).  This ratio is sometimes referred to as the "front end ratio".  When you take into consideration other monthly debt, a ratio of 36-40% is considered acceptable. This is referred to as the "back end ratio".  

Now for the formulas:

The front-end ratio is calculated simply by dividing PITI by the gross monthly income.  Back end ratio is calculated by dividing PITI+DEBT by the gross monthly income. 

Let see the formula in action: 

Fred wants to buy your house.  Fred earns $50,000.00 per year.  We need to know Fred's gross MONTHLY income so we divide $50,000.00 by 12 and we get $4,166.66.  If we know that Fred can safely afford 28% of this figure we multiply $4,166.66 X .28 to get $1,166.66.  That's it! Now we know how much Fred can afford to pay per month for PITI.  

At this point we have half of the information we need to determine whether or not Fred can buy our house.  Next we need to know just how much the PITI  payment is going to be for our house.  

We need four pieces of information to determine PITI:

1) Sales Price (Our example is 100,000.00)

From the sales price we subtract the down payment to determine how much Fred needs to borrow.  This result brings us to another term you might run across.  Loan to Value Ratio or LTV.   Eg: Sale price $100,000 and down payment of 5% = LTV ration of 95%.  Said another way, the loan is 95% of the value of the property.  

2) Mortgage amount (principal + interest).

The mortgage amount is generally the sales price less the down payment.  There are three factors in determining how much the P&I (principal & interest) portion of the payment will be.  You need to know 1) loan amount; 2) interest rate; 3) Term of the loan in years.  With these three figures you can find a mortgage payment calculator just about anywhere on the internet to calculate the mortgage payment, but remember you still need to add in the monthly portion of annual property taxes and the monthly portion of hazard insurance (property insurance).  For our example, with 5% down Fred would need to borrow $95,000.00.  We will use an interest rate of 6% and a term of 30 years.

3) Annual taxes (Our example is $2,400.00)/12=$200.00 per month

Divide the annual taxes by 12 to come up with the monthly portion of the property taxes.

4) Annual hazard insurance (Our example is $600.00)/12=$50.00 per month

Divide the annual hazard insurance by 12 to come up with the monthly portion of the property insurance.

Now, let's put it all together.  A mortgage of $95,000 at 6% for 30 years would produce a monthly P&I payment of $569.57 per month.  This figure was produced by our payment calculator.  Add in taxes of $200.00 per month and add in insurance of $50.00 per month and the PITI necessary to purchase our house equals $819.57.  

Putting it all together

From our calculations above we know that our buyer Fred can afford PITI up to $1,166.66 per month.  We know that the PITI needed to purchase our house is $819.57.  With this information we now know that Fred DOES qualify to purchase our house!

Of course, there are other requirements to qualify for a loan including a good credit rating and a job with at least two years consecutive employment.  More about that is our next issue. 

Bruce Andrews has been in the real estate business for over 20 years.  He has experience in real estate investing as well as practicing real estate as a broker for several years.  He is currently President of Fifty States Realty, www.fiftystatesfsbo.com a national "for sale by owner" website.

The two-story house with views of Newport Bay and the Grand Canal features touches inspired by the work of architect Irving Gill, including the use of natural light and heavily framed windows.

Modernist architect Irving Gill wasn't known for designing houses with the main rooms on the second floor, but some touches inspired by his work -- such as a creamy white exterior, the use of natural light and heavily framed windows -- make this custom home stand out on Little Balboa Island.

Charges on top of commission are illegal if no extra services are performed, the agency says.

Does it matter whether a real estate agent charges you a flat commission rate -- say 6% -- or quotes you a flat rate but adds hundreds of dollars on top of that as a separate charge labeled an "admin" or administrative fee?

219 Belmont Ave., Long Beach 90803

Many innovative products hold great promise, but the return may not be worth the investment. Retrofitting toilets or replacing light bulbs and fixtures will save energy and money.

Homeowners who believe they've been left out of the so-called green movement have every reason to feel that way.

Board can intervene when the actions of one owner interfere with another's quiet enjoyment. If mediation fails, there's always Small Claims Court.

Question: I live in a town house complex where all the units have indoor open-air atriums. My next-door neighbors' unit directly abuts mine, and the owners use their atrium for growing some exotic plants. They've got a lighting system switched on 24 hours a day inside their atrium. The atrium's ambient light keeps me awake at night and causes distress. I've asked them to turn the lights off at night but they responded: "Sleep in a different bedroom."

Kim Kardashian, former Clipper Lamond Murray, Malcolm McDowell and others.

Television personality and model Kim Kardashian has bought a furnished estate in the Beverly Hills Post Office area for about $3.5 million.

A former human resources director says he and former chief Bruce Karatz, who prosecutors say made more than $6 million from his options, tried to keep investigators from discovering the backdating.

Former KB Home chief Bruce Karatz engineered a massive stock option scheme that made him millions of dollars and then fought to keep it secret from investigators, a longtime company executive testified Wednesday.

Underwater on their mortgages and angry at banks, more borrowers are choosing to hand over the keys, even if they can afford the payments.

Wynn Bloch has always dutifully paid her bills and socked away money for retirement. But in December she defaulted on the mortgage on her Palm Desert home, even though she could afford the payments.

Led by double-digit jumps in coastal areas, the median sales price for the region reaches $275,000. The number of homes sold was nearly flat, up only 0.8%.

Southland home prices jumped 10% in February compared with the same month last year as foreclosure sales dropped significantly. San Diego and Orange counties made particularly strong gains.

Also: Joe Sebok and Kristan Cunningham design over Twitter, Facebook; TV writers Krista Vernoff and Kevin Maynard list in Los Feliz; former Robert Redford home in Malibu for sale.

Prolific songwriter and " American Idol" judge Kara DioGuardi's Spanish-style home in the Hollywood Hills is on the market at $1,649,000.