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If all this sounds a little overwhelming, then good. (It’s okay to stretch here a little if you don’t have any debt.) And don’t forget to factor in insurance, taxes, maintenance, and renovations. Keep in mind that ideally the total price shouldn’t be much more than three times your gross annual income. Remember that the closing costs - including all administrative fees and expenses - are usually between 2% and 5% of the house price. But that minor charge would add up to $36,000 over the lifetime of a 30-year loan - plus the opportunity cost of investing it.
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Have you ever gone to buy a car or cell phone, only to learn that it’s way more expensive than advertised? I know I have, and most of the time I just bought it anyway because I was already psychologically set on it.īut because the numbers are so big when purchasing a house, even small surprises will end up costing you a ton of money.įor example, if you stumble across an unexpected cost of $100 per month, would you really cancel the paperwork for a new home? Of course not. Saving up a big down payment can dramatically improve how much house you can afford. If you make a good financial decision when buying a house, you’ll be in an excellent position. If you make a poor financial decision upfront, you’ll end up struggling - and it can compound and become a bigger problem throughout the life of your loan.ĭon’t let this happen, because it will undo all the hard work you put into the other areas of your financial life.
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It’s okay to stretch a little, but don’t stretch beyond what you can actually pay. If you can’t do that, wait until you’ve saved more. That is a good rule of thumb to answer the question of “How much house can I afford?”. That’s why I urge you to stick to tried-and-true rules like 20% down, a 30-year fixed-rate mortgage, and a total monthly payment that represents no more than 30% of your gross pay. However, when it comes to real estate, I’m typically as conservative as possible. When it comes to personal finance, I like to be aggressive in certain areas, like investing.
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IWT’s suggestion: Be as conservative as possible So if your debt-to-income ratio amounted to 16% like in the example above, you’d be in good shape for a loan. While the 28/36 rule-of-thumb says that you should ideally have no more than 36% for your debt-to-income ratio, most lenders will provide a mortgage up to 49%. 16 by 100 and you have 16% for your debt to income ratio … but what does that number mean? We’d then take 1,000 divided by 6,250 in order to get our debt-to-income ratio, like so: Say you owe about $1,000 in debt month-to-month and make $75,000 a year ($6,250/month). Much like your debt-to-asset ratio, calculating it is simple:ĭollar amount of monthly debt you owe ÷ Dollar amount of your gross monthly income = Debt-to-income ratioĭebt-to-income ratio x 100 = Debt-to-income ratio percentage The riskier it is to lend to you, the smaller chance you have of attaining a home loan - or at least a home loan with a good interest rate. Creditors look at this number to determine how risky it is to lend to you. Unlike your front-end ratio (which compares the amount you owe on your house to your income), this number compares your income to your debt. Like your front-end ratio, your debt-to-income ratio is also worth calculating if you plan on getting a home mortgage. Use this formula to find out exactly how much house you can afford.įor example, if your gross monthly income amounts to $4,000 a month, the best mortgage you’re likely to attain would amount to no more than $1,120 a month since that’s 28% of your income. With the 28/36 rule, you’ll want your PITI number to be less than 28% of your gross monthly income. When you take the amount you owe towards your PITI and compare it to your income, you have your “front-end ratio.” This number is what most lenders look at when determining how much they’ll lend to you.ĭollar amount of your PITI ÷ Dollar amount of your gross monthly income = Front-end ratioįront-end ratio x 100 = Front-end ratio percentage This is the rate creditors charge for lending you the principal. This is the part of the payment that goes towards paying down the amount you borrowed to purchase the house. That way, you’ll have a better idea of what lenders are looking for.Īll of the expenses that make up your monthly mortgage payment are also known as the PITI: Let’s break down each of those areas now a little bit more. This is also known as your debt-to-income ratio. Total household debt shouldn’t exceed more than 36% of your gross monthly income.This includes everything within your home mortgage. Maximum household expenses shouldn’t exceed 28% of your gross monthly income.The 28/36 rule is used by lenders to determine how much house you can afford - and it’s pretty straightforward: