March 5, 2021
4 MINUTE READ
Owning a home should lead to a sense of safety and security — and this includes a sense of financial security. Before you start shopping around, make sure you know what you can afford when buying a new home and how much of a mortgage you can safely and comfortably fit into your budget.
But isn’t that what getting preapproved for a mortgage is for? In other words, why not just take out the biggest mortgage that your lender says you can have? Simply put, because your lender uses a specific formula to calculate that number, and it doesn’t necessarily take into account your own current and future financial goals.
Thinking ahead to upcoming major life events is a great first step to thinking about how much mortgage you can fit in your budget. For instance, are you considering returning to school for an additional degree? Are you expecting a child and will you need to add daycare expenses to your budget?
To help you get started, here are 3 tips to help you determine what you can afford when buying a home.
One of the first steps to take is to get an accurate and detailed picture of your current financial situation. There’s an old rule of thumb that says you can usually afford a home that is priced at two to three times your annual salary — in other words, if you make $150,000 a year, you could afford a home in the $300,000 to $450,000 range.
Unfortunately, this simple formula is actually too simple, in that it doesn’t take into account your current debt, your monthly expenses, and more. These costs quickly add up and greatly influence how much home you can afford.
A better option is to prepare a detailed family budget that takes into account your income, as well as your ongoing monthly expenses, including car payments, credit card payments, daycare, student loan payments, eating out, date nights, and more. Then, see what’s left over to spend on the typical costs of homeownership, including your mortgage, insurance, property taxes, general maintenance and upkeep, utilities, and more.
How much money you have available for a down payment will greatly impact your monthly mortgage payments. To put it simply, the higher your down payment is, the lower your monthly mortgage payments will be. And if you put down 20 percent or more of the cost of the home, you may not have to get private mortgage insurance, which protects the lender if you default on your loan.
Additionally, the lower your down payment is, the higher the loan amount you’ll need to qualify for will be.
Typically, lenders follow the 43 percent rule — in other words, your monthly mortgage payments (covering the loan principal and interest), taxes and insurance, and all of your other bills combined should be 43 percent or less of your gross annual income.
Let’s look at this another way to see an example of how this calculation works for someone with a $100,000 annual salary. If your gross annual salary is $100,000, multiply by 43 percent to get an adjusted $43,000 annual income. Next, divide this number by 12, to convert the annual total to a monthly limit of $3,583. This means that all of your monthly bills, including your potential mortgage, shouldn’t exceed $3,583.
Of course, you can probably find a lender who is willing to give you a mortgage with a payment above this threshold, but keep in mind that you are more likely to run into trouble covering your mortgage payments if you take this kind of offer.
Whether you’re buying or selling a home, nobody’s got your back like we do. We offer pricing and listing expertise and masterful transaction coordination, including skillful negotiating on your behalf. And, we can help with your home loan options, too!
Reali allows you to connect online with a local real estate expert, who will walk you through each step of your real estate search while acting with your best interests in mind. When you’re ready to get started, meet some of our experts and find your local Reali agent today.