Every first-time homebuyer asks the same question: how much house can I afford? The bank will tell you one number. Your real budget is probably different. Here is how to figure out your actual number.
The 28/36 Rule
This is the industry standard that lenders use:
- 28 percent: Your monthly mortgage payment (principal, interest, taxes, insurance) should not exceed 28 percent of your gross monthly income.
- 36 percent: Your total debt payments (mortgage plus car loans, student loans, credit cards) should not exceed 36 percent of your gross monthly income.
Example with Real Numbers
Let us say you make 80000 dollars a year. That is about 6667 dollars gross per month.
28 percent of 6667 is 1867 dollars. That is your maximum monthly mortgage payment under the rule.
But here is where most people get tripped up: 1867 dollars includes property taxes and insurance, not just the loan. Depending on where you live, taxes and insurance can add 400 to 800 dollars per month. So your actual loan payment might only be 1000 to 1400 dollars.
What the Bank Will Actually Approve
Banks will often approve you for far more than the 28/36 rule suggests. They might approve a 36 percent front-end ratio or even higher. Just because you are approved for 400000 dollars does not mean you should spend 400000 dollars.
Run Your Own Numbers
Plug your income, down payment, interest rate, and location into a mortgage calculator to see your actual monthly payment broken down by principal, interest, taxes, and insurance: https://finikit.com/tools/quick/mortgage-payment-calculator.html
The gap between what the bank approves and what you can comfortably afford is where financial stress lives. Know your number before you start touring houses.
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