These questions often come up among first-time app德扑圈官方网址home buyers:
- What percentage of my monthly income can I afford to spend on my mortgage payment?
- Does that percentage include property taxes, private mortgage insurance (PMI), or app德扑圈官方网址homeowners insurance?
Today we tackle these questions to help make your app德扑圈官方网址home buying experience a little easier.
Rule 1: Consider your total housing payment, not just the mortgage
Most agree that your housing budget should encompass not only your mortgage payment (or rent, for that matter), but also property taxes and all housing-related insurance—app德扑圈官方网址homeowner’s insurance and PMI. To find app德扑圈官方网址homeowners insurance, we recommend visiting Policygenius. They’re what we call an insurance aggregator, which means they compile all the best rates from around the online marketplace and present you with the best ones.
As for just how big a percentage of your income that housing budget should be? It all depends on whom you ask.
Income used for housing: What others say
The traditional model: 35%/45% of pretax income.
In an article on how the mortgage crash of the late 2000s changed the rules for first-time app德扑圈官方网址home buyers, the New York Times reported:
“If you’re determined to be truly conservative, don’t spend more than about 35% of your pretax income on mortgage, property tax, and app德扑圈官方网址home insurance payments. Bank of America, which adheres to the guidelines that Fannie Mae and Freddie Mac set, will let your total debt (including student and other loans) hit 45% of your pretax income, but no more.”
Let’s remember that even in the post-crisis lending world, mortgage lenders want to approve creditworthy borrowers for the largest mortgage possible. I wouldn’t call 35% of your pretax income on mortgage, property tax, and app德扑圈官方网址home insurance payments “conservative.” I’d call it average.
The conservative model: 25% of after-tax income!
On the flip side, debt-hating Dave Ramsey wants your housing payment (including property taxes and insurance) to be no more than 25% of your take-app德扑圈官方网址home income.
“Your mortgage payment should not be more than 25% of your take-app德扑圈官方网址home pay and you should get a 15-year or less, fixed-rate mortgage … Now, you can probably qualify for a much larger loan than what 25% of your take-app德扑圈官方网址home pay would give you. But it’s really not wise to spend more on a house because then you will be what I call “house poor.” Too much of your income would be going out in payments, and it will put a strain on the rest of your budget so you wouldn’t be saving and paying cash for furniture, cars, and education.”
Notice that Ramsey says 25% of your take-app德扑圈官方网址home income while lenders are saying 35% of your pretax income. That’s a huge difference! Ramsey also recommends 15-year mortgages in a world where most buyers take 30-year mortgages. This is what I’d call conservative.
Our take: Somewhere in between
Not everybody is as debt-averse as Ramsey—and following his one-size-fits-all advice has risks. You just have to remember: The more you spend on your app德扑圈官方网址home, the less you have available to save for everything else. You may be able to afford a housing payment that is 35% of your pretax income today, but what about when you have kids, buy a new car, or lose your job?
Another reader put it this way:
- Your mortgage payment should be equal to one week’s paycheck.
- Your mortgage payment plus all other debt should be no greater than two weeks’ paycheck.
That’s on the conservative side, too. One week’s paycheck is about 23% of your monthly (after-tax) income.
If I had to set a rule, it would be this:
- Aim to keep your mortgage payment at or below 28% of your pretax monthly income.
- Aim to keep your total debt payments at or below 40% of your pretax monthly income. Note that 40% should be a maximum. We recommend an even better goal is to keep total debt to a third, or 33%.
As some commenters have pointed out, while it may be possible to buy a decent app德扑圈官方网址home in a small midwestern town for $100,000 (and well within these ratios), workers in New York or San Francisco will need to spend five times that amount just to get a hole in the wall. Yes, people tend to earn more in these high-cost-of-living areas, but not that much more. Does it mean they shouldn’t buy a app德扑圈官方网址home? Not necessarily. They’ll simply have to make trade-offs to buy in those areas.
Just remember that when you obtain mortgage pre-approval, lenders will likely approve you for a loan amount with payments of up to 30 or 35% of your pretax income. That may tempt you to take on more app德扑圈官方网址home than you should. Don’t just assume that just because the bank approved it, you can afford it. They are two very different things.
Finding the Right Lender
One place to start is with Credible, a site that allows you to get quotes from three lenders in only three minutes. There’s no obligation, but if you see a rate you like for your mortgage or refinancing your mortgage, you can progress to the next step of the application process. Everything is handled through the website, including uploading documents. If you want to speak to a loan officer, you can, of course, but it isn’t necessary.
As you shop for a lender, remember that every dollar counts. You’re committing to a monthly mortgage payment based on the rate you choose at the very start. Even small savings on your interest rate will add up over the years you’re in your house. There are a couple of lenders that can help you save.
Reali Loans is another option – connecting you with an advisor who specializes in the area where your new app德扑圈官方网址home will be located. That agent can help you get the best interest rate, as well as work with you while you fill out your application, search for a app德扑圈官方网址home, and close your loan. To get started, you provide some basic information and get a quick, no-obligation rate quote.
In the market for a house sometime soon? Use our resources to target your search—and know well in advance what you can afford: