The answer? “As much as my real estate agent and mortgage company say I can.” Right? Wrong. Instead of asking how much house we can afford, the real question we should ask ourselves is: how much house can I afford to lose?
All too often, real estate agents and bankers take a percentage of our income and tell us the magic number, which is supposed to be our maximum allowable monthly mortgage payment. That number is usually calculated as about 28% of our gross monthly income. We are led to believe that as long as our mortgage payment is around that figure, we’ll be okay financially. In fact, some end up thinking that if they’re not hitting that number, they are shortchanging themselves and not getting enough house.
That is not necessarily true. Since 2008 we’ve entered a whole new ball game. If we somehow avoided considering financial risk and unforeseen expenses before that year, certainly since that year we cannot avoid making a healthy assessment of our finances. That means asking how much house we can afford to lose. The answer is “none.” Therefore, we must determine what kind of mortgage payment we really can afford, by making sure that we consider all of the other financial obligations that come with home ownership.
How much house can I afford?
Most say that the magic number is 25% – 28% of your gross income. However, I would like to submit to you, that you should really consider 25% – 28% of your take-home pay, that is after income tax withholding, health insurance, 401k contributions, and any other deductions are made. If your gross income, therefore, is $4,000 per month, instead of a maximum payment of $1,032, your maximum payment would really be only $840 if your take-home pay was $3,000. This should be a real eye-opener to families planning to buy their first home, especially in light of some additional factors.
Before purchasing a home, we must also consider the added expenses that will come up. When you do so, you will be thankful that you used your take-home pay as a measuring line. What added expenses? Utilities such as heating and cooling come to mind. Additionally, there is furniture to be purchased, entertainment equipment, as well as appliances. Also, there will inevitably be home repairs, property taxes, homeowners insurance and/or flood insurance. You may want to make certain upgrades to your home, like a covered patio for those hot summer barbecues.
None of these factors should deter anyone from pursuing homeownership, but it should make us determined to be better prepared for the real expense. Here are a few money-saving questions that can help make your monthly mortgage payment more affordable:
What size yard do we need and can I maintain it?
Is it necessary to have a pool or can the money be saved by making use of the community pool? If I already have a gym membership can I simply make use of that pool?
If you have children and were thinking of a four-bedroom home: Are the children very young? If so, could they possibly share a room for three or four years while we save for a larger home?
Do I really need a lakefront property? Or can we do without and save $8,000 – $12,000 off the price of the home?
You can also lower your mortgage payment by increasing the amount of your down payment. True this will involve waiting a little longer to own your home, but you will be better able to sleep at night, knowing you have not bitten off more than you can chew. If you suffer income loss, it is much harder to maintain a payment that may have been too high for you to begin with. On the other hand, if your income grows you can always upgrade into a larger home.
So then, don’t be fooled by asking “How much house can I afford?”. The real truth is that none of us can afford to lose our home. Use your hard-earned income judiciously, be reasonable and anticipate unforeseen expenses. Then, you can be reasonably confident that you will not lose your new home, but instead will be able to truly enjoy it, because you asked the right question.