by Marc Smith
As you begin to think about buying a house, it’s critical to determine how much house you can afford. Even with new rules and more stringent lending requirements, banks will often lend you more money to buy a house than you should consider borrowing. My approach to determining how much house you can afford is different and more conservative than many. I believe this approach will serve you well and keep from becoming ‘house poor.’
The idea of being ‘house poor’ means you have as nice a house as you can afford, but because your mortgage payment is so large, you can’t afford to leave your house and do other enjoyable things. Banks and other lenders are not concerned about your disposable income and overall happiness level. They are simply concerned with whether or not you can make your payment. My philosophy is exactly the opposite and asks not how much can I borrow, but how much do I want to borrow? It centers on the idea that low fixed costs and high disposable income reduces stress and allows you enjoy life to a much greater extent.
My general rule of thumb is to keep all fixed costs, including a mortgage, other debt, groceries and basic utilities to no more than 50% of your monthly take-home pay. That’s not 50% of your gross income; it’s half of what you receive in paychecks during the course of the month, after taxes have been withheld, 401-k contributions made, healthcare premiums paid, etc. If you can keep your true fixed costs to under 50% of your income, you should have plenty of money left over in the month to pay a cable bill, cell phone bill, eat out a few times or otherwise enjoy your disposable income however you see fit.
Realistically, this means you should target to keep your mortgage payment (including property taxes and homeowner’s insurance) to around 30% of your monthly take-home pay. This is significantly below what many ‘experts’ will tell you, but remember they are more focused on what is best for them and not what is best for you. For example, if your monthly take-home pay is $4,000, limiting your monthly mortgage payment to $1,200 will keep you from becoming ‘house poor.’ This isn’t a hard and fast rule, if you have no other debt (car payments, credit cards, etc) then you can probably afford a little more. Just remember, more disposable income reduces stress, increases your ability to save or spend on entertainment and overall leads to a happier, healthier life.