If you currently spend a good chunk of your time scouring real estate sites or apps in search of the “one” or find yourself spending a few too many hours watching anything on HGTV, it is possible you might just become a homeowner yourself in the near future. If that’s the case, make sure you consider the following before loading the moving trucks:
1. Determine how much you can realistically afford
In general, most financial experts recommend that your debt-to-income ratio should not exceed 36%, with your housing costs (including mortgage and insurance) not to exceed about 28% of your monthly income. In order to truly understand what type of home you can afford and how much of a mortgage you’re able to take on, it helps to do a little math first:
- Take your monthly income and multiply this number by .28 (or 28%). This number represents a reasonable amount you can expect to spend on housing.
- Now, take your monthly income and multiply this number by .36 (or 36%). This number represents the amount of fixed debt/expenses you can realistically afford each month.
- Then, subtract your potential housing/mortgage number calculated above from the total budget (36%) allowed for fixed expenses. Whatever is left over represents how much you can then afford to set aside for your other debts and fixed costs.
- If, after adding up all of your current fixed expenses (i.e. payments on all student loan or other debts, utilities, insurance costs, car payments, food, clothing, pets, etc.), you find that this number exceeds the amount of fixed expenses you calculated above, you may have to either lower the amount you can expect to spend on a mortgage OR look for every opportunity to reduce your monthly expenses accordingly.
Here’s an example:
If your monthly income is $5,000, your debt-to-income total would be $1,800 (36% of $5,000). The total amount that you’d be able to spend on housing would be $1,400 (28% of $5,000). This leaves a grand total of $400 that you can then put towards your fixed expenses ($1,800 – $1,400).
2. Understand the impact to your budget
If after you’ve completed the exercise above you feel you have a good idea of how much you could afford, it may make sense to get pre-approved by a lending institution for a specific mortgage rate. However, one critical detail to keep in mind throughout this process is: just because you have been approved for a specific mortgage amount, doesn’t mean you have to choose this option.
In fact, to better make sure you can afford the mortgage amount you’re approved for, try updating the budget template you currently use for the new expenses associated with your move. First, update your housing costs and any other fees associated with it (such as HOA fees, realtor fees, closing costs, etc.). Next, factor in the increased (or decreased) utility fees. If you are moving from an apartment to a home, for example, that increased square footage may mean higher heating, cooling, and electric bills. Also, if your move requires you to rely more heavily on increased use of a car to commute, be sure to factor in the greater need for gas.
The point is to ensure you consider all of the various ways your new home will impact not only your lifestyle, but also your own personal budget as well.
3. Boost your cash reserves
Any homeowner will tell you that owning a home, though wonderful as it is, can sometimes come with its share of unpleasant surprises. In order to ensure you’re protected, make sure you purchase quality home insurance AND maintain a cash cushion to use in case of a “homeowner” emergency. This way, if the air conditioner stops working or if the basement floods, you’ll at least have some level of protection and coverage.
4. Location is everything
Location is likely one of the most important factors to consider when making a home purchase. Before you go move to a new part of town, make sure you understand the new area. Do your research or ask local residents to ensure you understand the various tax assessments, overall safety of the area, quality of the local school system, crime rates in the particular neighborhood, property value trends, etc. Don’t make the mistake of assuming that the picturesque area you’ve fallen in love with is fully without its own set of problems. While most issues can be planned for and/or overcome, you will want to make sure you don’t find yourself in an unnecessarily difficult situation that you may have been able to prevent.
5. The cost of remodeling
The two most common reasons homeowners remodel their homes is to either improve the overall quality of their living situation or to increase the overall value or equity in the home. If you plan to do some work to your newly purchased home, make sure you understand the fair market value of the surrounding area so that you don’t price yourself out of the neighborhood (meaning you spend too much on a remodel that you ultimately won’t be able to make back if you were to sell the house). However, if you plan to stay in your location for the long haul, it may make sense to remodel the home to your taste and in accordance with your budget so that you can enjoy it for years to come.
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