How Much Home Can You Afford?
Your home is likely one of the biggest investments you will make in your lifetime. Just as importantly, a home can supply many critical aspects of your well-being: safety, comfort and a sense of identity. Many factors go into determining the value of the home you can afford. A clear understanding of these variables can help you buy a home that fits comfortably into your budget while providing a desirable place to live.
A Look at Some Common Formulas
Several established formulas can give you insight into the affordability of a home. One simple guideline says that a home priced no higher than five times your salary puts you in a strong financial position. In this scenario, a person who earns $75,000 a year should consider homes priced at $375,000 or lower.
A second basic formula encourages home buyers to keep their monthly mortgage payment at less than 30 percent of gross monthly income. In this view, a household with a gross monthly income of $6,250 should try to keep the monthly payment at around $1,875. These rules of thumb seek to prevent home buyers from spending too much on a home and creating a high level of financial stress. This circumstance, often referred to as "being house poor," may leave you with too little money to spend on other necessities.
A Glance at 7 Key Factors for House Affordability
How much house you can afford depends on multiple factors beyond just the purchase price. A wise buyer takes into account all of these considerations to determine the true cost of a home and its cumulative financial impact. While two or three of these factors make up the bulk of the expense, the other variables can also be important.
1. Interest Rates
Evaluating the mortgage rate forecast for the foreseeable future can help you determine what rates you can expect to pay. The higher the interest rate, the more you pay for a mortgage. This directly impacts how much house you can afford.
For example, an increase in mortgage rates from 4 percent to 6 percent reduces a person's buying power by 24 percent. This could bump up the monthly mortgage payment for a $250,000 home from just under $1200 to about $1440. If you plan to take out a mortgage, the interest rate you pay plays a significant role in the value of the house you can afford.
2. Loan Term
Another important piece of the puzzle comes in the form of your loan term. You can potentially buy a more expensive house when taking out a 30-year mortgage as opposed to a 15-year mortgage. Of course, you will pay on the home for a longer period and you will pay more in interest charges. While 15-year mortgages account for only a small percentage of bank loans, they do have several advantages:
Lower overall interest charges
Lower interest rate in most cases
Shorter payoff horizon
When considering a mortgage, it pays to look at your options. A better rate and an appropriate loan term can make a difference in the home you can afford.
3. Purchase Price
Many people understandably consider the price of the home to be the most important financial element in buying a new home. In general, a more expensive home comes with higher mortgage payments. Data from 2022 indicates the median price of a U.S. home reached just over $430,000.
This number can go up or down depending upon economic conditions, and prices vary widely in different areas of the country. Having a sense of how much you want to pay for a home can help you in your search.
4. Mortgage Fees
Though a smaller consideration, mortgage fees can add to your overall cost of a home. Depending upon the value of the home, these fees can add between $1,000 to $5,000 to the purchase price. The most common closing costs include the following:
Title fee
Credit check fee
Home inspection fee
Appraisal fee
Credit report fee
5. Real Estate Taxes
Real estate taxes also impact how much home you can afford. The average U.S. homeowner pays roughly $2,500 a year on real estate taxes. This varies significantly based on the value and the location of a home. In general, the greater the value of your home, the more you will pay in annual real estate taxes. To accurately understand the true costs of a new home, you should calculate the expected real estate taxes for that property.
6. Home Maintenance
Every house comes with maintenance costs, and these expenses will vary based on many factors. A newer home will likely have fewer maintenance costs than an older home. Also, homes with long driveways and large yards will cost more to upkeep. When buying a new home, many sources recommend you budget 1 to 4 percent of your home's value for annual maintenance costs.
7. Home Insurance
Depending upon your mortgage, you will likely need home insurance. This protects the value of your home in the case of perils such as fire, vandalism, storm damage and theft. A comprehensive home insurance policy for a $300,000 home costs about $150 a month, though rates vary throughout the country.
A Rundown of Additional Considerations
Many personal factors go into every home purchase. Long-established guidelines give you a good idea of the price of a home that fits into your budget. While you can deviate from these guidelines, you should have sound reasons for doing so. Buying too expensive of a home could increase financial stress, but making too many compromises for a more affordable home could lead to dissatisfaction. In either case, buying the wrong home may mean you need to move again.
No matter your position, you can find additional support to ensure you get the right home. If you are a first-time home buyer, several programs offer assistance in navigating the process and help prepare you for success.
Help for Buyers
Making the right choice on your new home purchase can lead to many years of satisfaction. Contact us today for assistance in various aspects of home ownership from affordable mortgage options to professional guidance.