Even after the Great Real Estate Crisis of 2008, buying a house is still a key part of the American dream.
Whether you’re dipping your toes into the real estate market for the first time or are a current home-owner looking to buy a new place, there’s one big questions you need to ask yourself: How much house can I afford?
Sky-high home prices and unaffordable mortgages both contributed to the most recent real estate bubble and the subsequent crash. Now home prices are on the rise again in many parts of the country. That means would-be homebuyers need to carefully think about what they can reasonably afford well before they make an offer.
There are many online calculators you can use that will help you assess how different down payment amounts and mortgage terms will affect your monthly housing expenses. Here are seven tips that everyone who is considering buying a house should keep in mind.
Rent does not equal a mortgage: Just because you pay $2,000 every month in rent doesn’t mean you can afford a monthly mortgage payment of $2,000. One if the beauties of renting is that your landlord covers certain expenses, like repairs. As a homeowner, you’ll be responsible for those, and they’ll take a bite out of your monthly budget. When considering how much house you can afford, be sure to budget for ongoing maintenance, unexpected repairs, property taxes, insurance, and homeowners association fees. And don’t forget to include one-time costs, like closing costs, moving expenses, and new furniture.
The down payment makes a difference: The more you pay up-front, the lower your monthly payment. Also keep in mind that if you put down less than 20%, your lender will likely require that you get private mortgage insurance (PMI), which typically costs between 0.15% and 2.5% of your total loan amount.
Your interest rate will affect your payment: Lowering or raising your interest rate by just 0.5% can substantially change your total interest payments over the term of your mortgage.
Your mortgage type affects how much you pay: Thirty-year, fixed-rate mortgages are common, but if you can afford the higher monthly payment, consider a 15-year loan. You’ll pay more each month, but your overall interest costs will be lower, and you’ll be debt free sooner. If your lender offers something other than a 15- or 30-year loan, proceed with caution. Other mortgage products abound, but you need to make sure that you understand all the risks before signing up for one of those loans.
Aim for 25%: Ideally, you shouldn’t be spending more than one-quarter of your monthly take-home pay on housing expenses. While you may be approved for a mortgage that results in payments that total 30% or 40% or your income, that doesn’t mean you should spend that much.
Your debts and credit score matter: If you have a lot of debt or a low credit score, it will affect your ability to buy a home, no matter what you think you can afford. Lenders will look at your liabilities and credit, and they may offer you a loan at a higher interest rate or deny you altogether.
Don’t forget the future: Let’s say you and your spouse just got married and are ready to buy your first home. You both have good, stable careers and together make a healthy six-figure income. You’re doing well for yourselves, and you want a home that reflects that. But what happens if one of you loses a job or decides to step off the corporate fast-track and shift to a lower-paying career? What if you have children, and one spouse wants to stay home? All these factors should be considered before deciding how much house you can afford.