Thinking about buying a house? If you are, you already know it’s a big step and can be a difficult process to navigate. And with the demand for homes in today’s market, it’s important to understand the true cost of home ownership. With a little planning, you can calculate your accurate budget for a house. It may surprise you to know that you can afford more than you realize—or it may save you from taking out a mortgage you can’t actually handle.
In some cases, you may need more resources to make a home your own or make improvements and upgrades. These changes may require a higher loan amount. So be sure you know about anything beforehand that may need to be fixed or upgraded before you apply for a loan. Always have a home inspection performed so you know about any potential problems or issues with the home that may require money to fix or repair. In today’s home buying market, sometimes buyers will waive the inspection contingency to speed up the sale and closing process, but it comes at a risk. Without a professional inspection, it’s hard to determine the condition of the building’s structure, plumbing, electrical systems, heating and cooling, and a host of other considerations.
There are several things to consider when determining how much you can afford when buying a home. Your income, credit score, expenses, interest rates, and money for a down payment are all used to determine how large of a loan you can qualify for. You may also need to set aside money to make repairs, improvements, and upgrades to the property. It’s always a good idea to have a plan and know what to expect with the property you’re thinking about buying. Setting a budget and sticking to it will ensure the home buying process goes smoothly and will help avoid problems that may come up later.
How much house can I afford?
How much house you can afford depends on the size and type of mortgage you qualify for. You want to be able to meet any existing financial obligations and not have to struggle by taking on a new mortgage payment. The decision to buy a home may be the single largest investment you make and will impact your finances for years to come. Many people will tell you the best time to buy a home is when market conditions are favorable—but really, the best time to buy a home is when you can afford it.
Start by determining your monthly income and expenses to be sure you can afford your mortgage loan. A good rule of thumb is to spend no more than a third of your gross monthly income on housing costs.
As a simple example, a mortgage payment for a $240,000 loan with a 30-year fixed term and an interest rate of 6.9% would be about a $2,000 monthly payment including fees and taxes. (It will vary based on where you live and the cost of your homeowner’s insurance.) Your gross income should be around $6,000.00 a month with this loan.
A mortgage company will likely approve you for the loan even if you make less than that, but this will leave you with thinner margins and less cash in reserves for emergencies and repairs.
Special loans
Most new buyers will take out a conventional mortgage loan. These types of loans require a downpayment of 3% of the property value, a good credit score, and a good debt-to-income ratio. Lenders will also look at the buyer’s ability to pay closing costs, make a down payment, and pay associated costs like insurance fees. Some people will qualify for an FHA (Federal Housing Administration) loan that allows them to buy a home with fewer restrictions than a traditional mortgage. FHA loans are best suited for people with less income and a shorter credit history.
Another option for some home buyers is a VA loan. A VA (Veterans Administration) loan is available through the Department of Veterans Affairs. People who qualify for VA loans are veterans, service members, and their surviving spouses. The advantage to these types of loans is a smaller or no down payment and no private mortgage insurance. There is also usually a better interest rate as well.
How much should I spend?
The amount you spend depends on your financial situation. It’s important to make your payments and still meet any other financial obligations. You don’t want to struggle or risk having problems as you make your payments. The best way to calculate your payment is to follow some basic rules. Again, the basic rule is to spend about one-third of your income on your home. But depending on your financial situation, you may want to spend more or less. For instance, if you have a relatively small salary but a substantial amount of cash in savings, you may be able to buy a more expensive home.
Also consider how much of a house you need. Do you need space for just yourself or for a family? Be forward-thinking and consider possible changes in employment or income sources. If you suddenly lost your job, how quickly could you realistically find another job with the same salary? It’s often easier to add on to a small house as your family and income grow than to suddenly downsize from a large house if your income drops.
Making payments
Now that you know how much you can afford, it’s a good idea to set a budget. Your budget should include the price of the home but also any extra expenses. Extra expenses could be landscaping, heating and cooling, upgrades, repairs, and maintenance, including things like painting and decorating. The terms of a mortgage can vary, but most people choose a 15 or 30-year loan period.
There are two parts to a mortgage payment. One part is the loan payment and the other is the interest payment. These payments can be included together or paid separately depending on the structure of your loan. Interest payments go to the lender to pay for the loan. The specific rate of interest you pay depends on the loan structure, your credit, and the home-buying conditions in your area. It’s best to shop around for the best interest rate you can find since it translates into thousands of dollars over the life of the loan.
Other costs include private mortgage insurance (PMI) which can add an additional $100 to your monthly premium payment. The good news is that you can cancel the insurance once you reach 20% equity in your home.
Calculate your home affordability
There are several online calculators that can help you determine the cost of buying a home. They work by considering your debt-to-income ratio or housing budget. But don’t forget to also include money for a down payment. Your location, credit rating, and loan type will also have to be considered when calculating the cost of home ownership.
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