Can I Afford to Buy a House?

Have you ever looked at homes online and found that the estimated mortgage was less than the amount you are paying in rent? Maybe you’ve wondered why you’re throwing your money away on a rental when you could be building equity in your own home? In today’s post, I want to take a look at the real cost of buying and owning a home. Wondering whether owning a home is right for you? Check out last week’s post.

Can you really afford to buy a house? It’s a tricky question, and not one to be taken lightly. Often people assume that their mortgage lender can help them answer this question, but mortgage lenders are only going to look at one part of the financial equation. Plus, it’s important to remember that they are motivated to lend you money – that’s their job. Knowing your financial situation – present, past, and future – well enough to make this decision – that’s your responsibility.

Here are a few items to consider as you decide whether or not you can afford a home:

1.     What’s your cash flow like? Do you have enough money to pay your bills with some leftover? If you often overdraw on your bank account or are late on your rent, home buying likely isn’t for you. Is your income consistent? If not, do you have a plan in place to ensure that you can always cover your monthly mortgage payments?

Tip: If you haven’t already, this is a great time to start a budget (or get back on track if you’ve fallen off the wagon). I rely on Mint – a free online money management system that can help you create a budget (and stick to it), track your spending, pay your bills on time, and even check your credit score.  Looking for another way to track your spending? Use one of these budget spreadsheet templates or this NerdWallet worksheet.

2.     Do you have an emergency fund? When you buy a house you are exposing yourself to more potential risk. Can you afford to fix an appliance if it breaks? What if your A/C unit goes out in the middle of the summer? What about a leaky roof? Or, what happens if it all happens at once – a story I hear more often than you’d think. You’ll want to have some cash on hand to pay for those expenses. When you own a home you’ll want more set aside than just $500-$1000, you’ll want a larger fund that contains at least 3-6 months of expenses. Don’t have all of that yet? You’ll at least want to have a solid plan in the works to get there. You don’t want to drain your savings buying your house and not have the money to sustain it.

Tip: Wondering how much you should save for an emergency and where to keep that money? Check out this NerdWallet article and calculator.

3.      What other financial goals do you have? As you know, buying a home is a large investment. You’ll want to be sure that it fits in with your other financial goals and doesn’t work against them. Are there other things that you’d like to accomplish first? No need to rush into this. Make sure that you’re ready for this commitment.

Tip: This is a good time to make a list of your financial goals – paying off debt, saving for your child’s education, travel, starting your own business, etc – and put these goals in order. Where does buying a home fall in the list? This can help you determine what other goals you want to get checked off your list before you buy.

4.     What’s your debt to income ratio? Your debt to income ratio (DTI) is determined by dividing your total monthly debt payments by your monthly gross income (income before taxes and other deductions are taken out). This calculation is really important because it’s the primary one mortgage lenders use to decide if they want to lend money to you. In most cases, you’ll need a DTI below 43% to get a qualified mortgage. It’s important that you have your other debt like credit card or student loan debt paid off or at least under control before you start the home buying process.

Tip: You can learn more about DTI and calculate yours here.

5.     Can you afford the down payment? Lenders prefer 20% down payments – this is also beneficial to you as the home owner because you won’t have to pay Private Mortgage Insurance (or PMI). Depending on the loan, you may be able to buy your home for as little as 3% down. But remember, the lower the down payment the higher your mortgage.

Tip: Wondering how much you should put down? Check out this NerdWallet article and calculator. Also, don’t forget to take a look at the federal, state, and county programs that might be available – especially if you’re a first-time home buyer. Remember that closing costs, unless you negotiate to have the seller pay them, can often eat into your down payment. Make sure that you leave room for those costs.

6.     What mortgage can you afford? It may be tempting to base your mortgage off of what you are paying in rent. While that’s a helpful place to start, you’ll likely want to aim lower because of the extra costs (see below) of owning a home. If you’re anything like us, you’ll be approved for a mortgage amount that’s far above what you can actually afford. Again, that’s because lenders aren’t looking at your full financial picture – just your DTI. Do your research and make sure you are confident you can afford your home before you even consider looking at it.

Tip: Check out this calculator to see how much home you can afford. As you look at home buying sites you may be tempted to use their mortgage estimates, remember those tend to be underestimated because they often don’t include those extra costs that come with a mortgage.

7.     Do you have room in your budget for the other on-going costs (property taxes, home owner’s insurance, HOA fees (if you have them), ongoing maintenance costs, etc.)? Your mortgage is just one part of the cost of owning and maintaining a home. You’ll need to set-aside money for other on-going costs like property taxes, home owner’s insurance, HOA fees (if you have them), on-going maintenance costs, utilities, yard care, pest control (if needed), and more. You’ll also be responsible for property taxes, these may come out of your escrow account or you may owe them outright.

Tip: Use this calculator and article from Angie’s List to determine your monthly home ownership costs. Curious about property taxes? Take a look at this calculator from SmartAsset. Ask your lender if you’ll have an escrow account to help you cover the cost of property taxes and home owner’s insurance.

As you can see, home buying, ownership, and maintenance is often more expensive than it initially appears to be. Owning a home costs a lot more than just the down payment and the mortgage payments. There will surprises along the way that you never anticipated. That’s why it’s important to have an emergency fund and breathing space in your monthly budget so you don’t have to sweat the small stuff as it comes up. Also, don’t spend all of that money ear-marked for a down payment on your actual down payment. Set some money aside to help cover closing costs, any initial maintenance or repairs, and any furniture, appliances, or paint that you might need to make your house really feel like your home.

Yes, home ownership can be expensive, but if you the purchase aligns with your values, dreams, and goals, hopefully, it will all be worth it. In our experience, we’ve weathered many smaller surprise expenses from unanticipated lawn care costs to pest control services to HV/AC maintenance. In the meantime, we’ve continued to save up in anticipation of those larger surprises. We take pride in our home and the many ways that is helping us live out our values of creativity, sustainability, and hospitality.