How much home can you afford?
Interest rates are still low and the economy has been improving. Real estate sales have picked up the last few years so more and more people are confident in making a substantial purchase – and that’s buying a home. Now the question becomes: "How much of a home payment can I afford?"
It’s important to think of this question from two different perspectives.
- The first is how big of a mortgage will you qualify for. This will depend on several factors, including your income, credit history and credit score. There are several calculations that lenders use to evaluate mortgage applicants.
- The second perspective is a bit more subjective, and that is how much home do you really need? Just because you can qualify for a large mortgage doesn’t mean you should.
Banks will evaluate you on two ratios.
Banks will evaluate you based on a calculation called the expense to income ratio. This is called the front end ratio. This calculation looks at the amount of mortgage, taxes and insurance and divides by your gross income. Banks are looking for
28% or less of your gross income to be used.
This is a similar rule, but it looks at the same expenses to pay for the home expenses plus all other debt payments like: Credit cards, autos, student loans, etc…. The banks are looking for that number to be under 36% of your gross income.
In my opinion, the 36% rule is too high. This rule works, but it doesn’t allow you to save much for retirement. If you want to save 15% of your gross income, then the rule should be more like 20% to 25% of your gross income.
By following this guideline, you can save for retirement, live within a budget, and still have enough money left each month to do additional saving and even take care of unexpected expenses as they occur.
Date Posted: 08/24/2016 Advice provided in this article is meant for educational purposes only and financial education is important to us. Before making decisions regarding your personal financial situation, please consult an advisor or conduct your own due diligence. If you would like to discuss your Retirement Income Plan with an HCM Wealth Advisor, please give us a call – 513-598-5120. Located in Cincinnati, Ohio, we serve clients in 28 states, and we’d love to help.