Determine How Much You Can Afford To Pay
So, you’ve decided that now is definitely the time to buy. You’re excited and ready to get out there and start looking at houses.
SLOW DOWN…. it’s not time to look just yet.
We’ve seen it happen time and time again. Eager buyers start looking at houses that they think they can afford. They fall in love with a house or neighborhood only to find out that they either cannot qualify for a loan to cover it or the total expenses are outside their budgeted comfort level.
Remember, FIRST THINGS FIRST. There are steps to the home buying process and each step really is important and needs to be taken in order. Go through the process the right way and you’ll not regret it. A home is one of the largest purchases most people make and yet many put less time into planning for it than they put into purchasing a cell phone and cell phone plan.
Obtaining a mortgage is not the simple process it was a few years ago. Underwriting guidelines and restrictions have tightened considerably. You do not want to start looking at houses before you know for sure just how much of a loan you qualify for and before you know that you will be comfortable with the monthly payments. Being “house poor” is no fun. Struggling to meet your expenses each month because you failed to carefully consider how much owning a home will cost puts a terrible strain on many families.
FIRST, meet with a local lender to discuss your specific situation and to learn what loan options are available. The loan officer will pre-qualify you for the maximum amount you can borrow and provide a Pre-qualification Letter to submit with any offers you make once you locate the right home. Almost all sellers require this letter with offers so there is no sense in even looking at any homes before you know that you can get the letter when it is needed.
We can refer you to local lenders who we know are only interested in looking out for your interests in the same way that we do. Having a lender who is knowledgeable and who can clearly explain your options and who will work hard to get you the best terms possible is a valuable person to have on your team. We have seen many buyers go online to find a lender, thinking that is the best way to get the lowest rate, only to find out too late that the terms they thought they were getting were not in fact what they got. Do not make this costly mistake!
Now, the lender will let you know how much of a loan you ‘qualify’ for but just because you qualify for that amount doesn’t mean you should use all of it. Know what you are comfortable with. Know what you can manage. Do not over extend yourself. There are always unknown and unexpected expenses with home ownership no matter how carefully you plan so you need to leave plenty of room in your budget to meet those expenses without breaking the bank.
Here are a few things to consider that will help you budget appropriately:
- Gather and tally your fixed monthly expenses (utilities, credit cards, cell phone, groceries, etc. – keep in mind that if you are moving to a larger home your utilities will probably increase) and subtract that amount from your monthly income. This is roughly what you have left for a mortgage payment.
- Calculate your debt-to-income ration; Your amount of monthly bills compared to your average monthly income. Lenders look at this ratio when qualifying you for a loan. If you debt is more than 20% of your net monthly income, pay down some bill before talking to the lender.
- Understand what a mortgage payment covers. Use the acronym PITI to remember: Principle, Interest, Taxes and Insurance.
- If you down payment is less than 20 percent of the total loan you may be required to pay for private mortgage insurance (PMI). Your loan officer will explain further and help you calculate the amount.
- Take a careful look at your spending habits – be honest with yourself. You can pay off your mortgage much faster, saving tens of thousands of dollars in interest, by cutting back on non-fixed expenses such as entertainment, dining out, etc. and applying those dollars to the principle on your mortgage. WE CAN EXPLAIN FURTHER HOW THIS WORKS AND THE ADVANTAGES FOR YOU. It is also important to build in a buffer in case you lose your job or have unexpected expenses. Most financial planners recommend having a 6 month reserve in savings for this.
Finally consider these rules of thumb about how much house to buy:
- The purchase price should be no more than 2.5 times your gross annual income.
- Your mortgage payment should be less than 28 percent of your gross monthly income.