When planning to purchase a home, it’s fun to fantasize and picture yourself in your dream home. Once you’ve narrowed down the neighborhoods you want to look in and made your list of must-haves and nice-to-haves, it’s time to figure out how much you can actually afford.
We’ve all heard the phrase “house poor” — when you spend so much of your income on your mortgage, utilities, taxes, and maintenance that you don’t have the money to do much else. With this in mind, it’s important not to waste time looking at houses outside of your budget. Here are some simple formulas, tips, and references to help you find a home you’re comfortable paying for.
Consider debt-to-income ratioYour debt-to-income ratio is the amount of debt you have (credit card payments, student loans, auto loans, etc.) compared to your overall income. The ratio helps mortgage lenders evaluate how much additional debt you can handle, helping them to decide whether or not to give you a home loan. As a rule of thumb, you should aim to have a low debt-to-income ratio, ideally less than 36 percent. To calculate, simply add up your recurring monthly loan obligations and divide by your gross monthly income. Bankrate.com offers a helpful calculator so you can quickly find your ratio.
Save for your down payment
Once you’ve got a realistic goal based on your debt-to-income ratio, start saving. Set up a savings plan and evaluate your current spending habits to fit your budget. You could even consider earning extra money from a side job, project, or hobby. There are many finance and budgeting programs and apps to assist you, and Kasasa’s got your back with lots of blogs on saving money too.
Build your credit
Having a checking or savings account and paying your bills on time are the two most important indicators of good credit. To continue building your credit, try to diminish your outstanding debt and keep existing debt in check.
Calculate your mortgage payment
Figure out the purchase price you can afford using a mortgage calculator. This calculator factors in the current interest rate for your area and different loan types to help you determine what your payment will be. Investopedia’s Mortgage Calculator is a good one to check out.
Factor in PMI
If you can’t afford to make a down payment of at least 20% on your home, you’ll need private mortgage insurance (PMI). PMI protects your mortgage lender if you default on your home loan. PMI fees depend on the size of your down payment as well as your credit score, requiring a monthly payment though, in some cases, you can pay in a large amount upfront.
Don’t let the intimidating process of buying a home keep you from achieving your goals. Follow these tips and you’ll be well on your way toward affording your dream home.