Buying a House? Three Essentials for Your Budget
The best time to consider what you can really afford is before you sign on the dotted line.
By Carla Fried, Money
It’s tempting to stretch your budget to the limit when house hunting. But unforeseen expenses or rate changes that affect your mortgage could raise your housing costs to levels you hadn’t anticipated — and don’t have the money to pay for. The best way to avoid headaches down the line is to budget ahead. These three tips can get you started.
- Add Up All Your Cost Commitments. The total amount of your debt payments — including mortgage, other loans and credit cards — should not exceed 40% of your income, says certified financial planner Don Sprague. And don’t forget that the mortgage is not the whole housing enchilada: Property taxes, home insurance, maintenance and utilities can easily tack on another 25% in monthly expenses. If all that goes past the 40% barrier, you can’t afford the house. Buy a cheaper one instead. Or reduce other debts before you take a look at real estate.
- Understand the Terms. If you are considering a short-term adjustable-rate mortgage or home-equity line of credit, determine what your maximum payment could be when your rate adjusts. Look for the “first adjustment cap” to find the amount to which your rate could go up when the loan adjusts for the first time. Plug that number plus your loan balance into the calculator at hsh.com to figure out the monthly nut. If that plus your other debts is more than 40% of your income, that house is out of your reach.
- Create a Cushion. Have at least three to six months’ worth of living expenses saved to cover a short-term snag like a job loss or a heating system on the fritz. Got an adjustable-rate loan? Start saving now for that rate adjustment. If you have a $300,000 loan at 5% and a two-percentage-point maximum adjustment in three years, your monthly payment could go up as much as $400. Put away $75 a month for the next three years and you’ll be able to cover the increase for six months without feeling like the roof is falling in on you.
Adapted from the April 2007 issue of MONEY. © 2008 Time Inc. All rights reserved.
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