How to Figure Out How Much Home You Can Afford

How Much House Can I Afford?

There’s a lot that goes into buying a home, such as your down payment (the cash amount you pay upfront) and mortgage (the loan you’ll need to pay for the rest of your home). Don’t worry—we’ll dive deeper into what this means.

How Much House Can I Afford Based on Income?

Most advise that you should not pay more than 28% of your gross earnings on a mortgage. You can get a rough idea of how much you can spend on a home using this easy calculation: take your total monthly household income and multiply it by 0.28. For example, if your total household income each month is $5,000, you can afford a mortgage payment of up to $1,400 per month.Note that your monthly mortgage payments will vary depending on your credit score. Those with lower credit scores may have to spend even more on their monthly payments toward their home.

Turn data into insights with Excel

Make better decisions backed by data and insights

Learn more

Calculating Your Debt-to-Income Ratio

Before you get approved for a mortgage, lenders will examine your DTI (debt-to-income) ratio. Your DTI ratio is important as it reflects how much debt you owe each month versus how much money you earn. Lenders want to see a lower DTI ratio. To lenders, an ideal DTI ratio is below 36%, although it’s possible to have a DTI ratio of up to 43% and still get a loan.

How to Calculate DTI

To calculate your DTI ratio, you’ll need to gather your total monthly debt payments. The monthly debts that lenders consider include:

• Credit card payments
• Student loan payments
• Car payments
• Existing mortgage loans
• Alimony
• Child support

Once you’ve calculated how much debt you owe monthly, take your debt and divide it by your monthly income. For example, if your monthly debt is $1,500 and your household monthly income is $5,000 per month, your DTI ratio is 0.3 or 30%. Since an ideal DTI ratio is below 36%, this will be a good DTI ratio to get a mortgage. Be sure to use a home loan comparison tool to weigh the pros and cons of different mortgages. Once you are approved for a mortgage, a mortgage loan calculator will help you determine how long it will take to pay off your mortgage.

Calculating Your Personal Monthly Budget

Owning a home is expensive. While the right DTI ratio will help you qualify for a mortgage, it’s still important for you to consider the additional monthly fees you’ll encounter once you own a home. Future utilities, homeowners’ insurance, and property taxes should be considered before buying a home. These are things lenders don’t consider when calculating your DTI ratio and giving you a loan. You should expect to pay at least $300 a month on utilities like water, sewer, gas, and electricity—and that’s only the essential ones! Don’t forget about other utilities such as internet and cable.Once you determine how much you’ll be spending each month, add that on to your estimated mortgage payment. Using the example earlier, let’s say your monthly income is $5,000, your monthly mortgage payment is $1,400 per month and your additional fees like utilities and homeowners’ insurance will cost you $400 per month. Now, your monthly debts are up to $1,800 per month. Using the same DTI ratio formula, take $1,800 and divide it by $5,000.

1,800/5000=0.36

You never want your monthly debts to go above 36% of your monthly household income. By doing a little extra math, you can ensure you will be able to afford your home in the long run.

How Much Should You Spend on a Down Payment for a House?

Your down payment is crucial to consider when calculating how much home you can afford. The general rule of thumb is that you should pay a 20% down payment on a home. For example, if you are looking for a home that is for sale for $500,000, you’ll need a $100,000 down payment. If you already have your heart set on a home but can’t afford a 20% down payment, don’t worry. You can put down a lower down payment, but in this case, lenders will require you to get PMI (private mortgage insurance). PMI protects the lender if you can no longer pay your mortgage.

How Much is PMI?

The cost of PMI can vary, but it can cost anywhere from 0.1% to 2% of your loan per year. Note that your credit score will influence the cost of PMI.
Figuring out if you will need PMI, or how much it will cost you, is crucial to consider when calculating how expensive of a home you can afford.

Congratulations—with this knowledge, you are now one step closer to buying your dream home! Should you need further assistance determining what kind of home you can afford, reach out to a financial advisor who can help you.