Are you currently in the market to buy a house and find yourself asking, “How much house can I afford?” Well, that’s the question we’ll tackle in this article.
What do lenders say?
The first step in the home buying process is getting pre-approved, but this comes with a bit of caution.
The first thing you want to do is understand that you don’t need to borrow the amount you’re pre-approved for.
Most lenders will likely approve you for way more than you need, so you want to be mindful of that.
Obviously, they want you to borrow as much as they’re willing to lend you – that’s how they make their money.
But that’s probably not in your best interest.
Just because you’re approved for, or think you make enough money to make the payment, doesn’t mean you can actually afford it.
There are other things to consider in your budget, and you don’t want to end up being “house broke.” That happened to me. It doesn’t have to happen to you because it’s completely avoidable.
As long as you take a few simple precautions, you’ll easily be able to determine the amount of house you can afford (which we’ll do here shortly).
What do financial experts say?
Most financial advisors tend to recommend a payment somewhere around 30% of your gross monthly income.
However, some financial experts are more conservative.
Dave Ramsey says not to spend any more than 25% of your take home pay – and even then it’s on a 15 year mortgage with at least 10% down. Pretty conservative.
What do I say?
I recommend something in the middle. I would shoot for 25% of your take home pay on a 30 year mortgage with at least 3% down.
The idea here is not to tie up all your income in a house. You need money for other things: retirement, college savings, emergencies, and living expenses.
God forbid you or your spouse lose your job! You need to make sure you can still make the house payment.
A good rule of thumb is 25% – that leaves you with 75% to take care of everything else.
Let’s say you decide to go with my recommendation and shoot for something around 25% of your take home pay on a 30 year fixed.
Let’s say you and your spouse take home $6000 a month.
That means you would be able to buy a house for around $210,000 – roughly.
A simple mortgage calculator can help you figure this.
If your take home pay is $6000 a month, then 25% of that would be about $1500; you’d want to make sure the mortgage payment is no more than that.
Use a mortgage calculator
Any mortgage calculator will work, but the one I use is Zillow’s mortgage calculator.
If you figure the minimum amount required for a down payment (3% on a conventional loan) on $210,000 at 4.5% interest, you’d be right around $1454 per month (estimating taxes, mortgage insurance, and home owner’s insurance) – that’s a good place to start if you want to crunch your numbers.
Obviously, those number are subject to change (because interest rates are subject to change; your credit score is subject to change, etc.), but it will at least give you a “ball park idea.”
Use the calculator to figure your own numbers, and play around with it to see where you need to be based on your income, down payment, interest rate, etc.
Is Dave Ramsey too conservative?
Not because his philosophy doesn’t work – of course it does! It works best, actually.
It’s because what he recommends is almost impossible, and that’s the situation I find myself in today (more on that in a minute).
So is Dave Ramsey too conservative when it comes to house buying?
After all, if it were really up to Dave, you wouldn’t have a mortgage – you’d just pay cash!
But who has money to do that?
If that’s not an option, he would recommend putting down 20% to avoid PMI!
Again, not many people are able to do that, but it doesn’t stop there.
At the very least he recommends 10% down on a 15 year mortgage, making the amount of house you can buy even less.
No doubt that minimizes risk – and no doubt it’s better to do that if you can, but 25% of your take home pay on a 30 year mortgage seems pretty solid.
Maybe it’s not as conservative as what Dave recommends, but it’s also not as risky as what most other experts say. Why not meet in the middle?
That’s what I’ve decided might work in my particular situation.
Not to mention, Dave sometimes bends his own rules depending on the situation.
Here’s a video of Dave explaining what he recommends for a house to a woman going through a divorce. It’s interesting to see him willing to be flexible based on her situation.
There’s no such thing as too conservative
When it comes to finances, there’s really no such thing as being too conservative.
I get that you want to mitigate risk and debt as much as possible – and more money down with lower rates with shorter terms is best. I just find that most people will not be able to do that.
In fact, my own circumstances have prevented me from doing anything. I pretty much have to remain where I am.
My wife and I have wanted to move for years, but it doesn’t seem possible right now.
If we were to do a 15 year fixed rate mortgage at 25% of our take home pay like Ramsey recommends, we’d have to find a house for $160,000 or less.
Sure they exist, but we’re better off staying put because those houses are not worth it! They are either in dangerous areas or terrible school districts, so we’re better off staying put.
Unless we save more money, make more money, or the market drastically changes, we simply can’t do much right now.
That is not to say that being conservative doesn’t work – of course it does! It’s just not always possible, which is why a 30 year term will actually open up options for us.
That said, I think 25% of your take home pay on a 30 year fixed conventional loan is more than a reasonable compromise.
A 30 year mortgage doesn’t have to be 30 years
Of course this is easier said than done, but a 30 year mortgage can always be paid off early.
In fact, you can turn a 30 year mortgage into a 15 year mortgage – maybe even a 10 or 5 year mortgage – simply by making extra payments. It all depends on how aggressive you want to get.
And that’s really the point.
Even Ramsey doesn’t believe in dragging out a 15 year mortgage full term!
If the goal is to pay extra to get out of debt as quick as possible – what difference does the term make?
Like I said, I know it’s easier said than done, but it’s certainly possible! And that should be the goal for anyone who has a mortgage: pay it off as soon as possible.
So how much house can you afford?
Many people say many different things – from lenders, to experts, or even myself.
At the end of the day, it all comes down to you and your circumstances, though.
But you have to remember – circumstances change; the market can change!
What doesn’t change is the percentage that makes most sense for you and your situation.
For me it’s about 25% of my take home pay on a 30 year fixed; that’s about a $210,000 house around here.
For you it might be different.