How To Determine How Much House You Can Really Afford

What percentage of your budget is safe to dedicate to housing? Use these guidelines to buy a home both you and your budget will love.

by Gary Foreman

Hi Gary,
Considering the cost of homes these days and mortgage rates, what is a reasonable percentage of a person’s salary that should be used for a mortgage payment? And does this percentage include everything needed to run that home (utilities, water, maintenance, etc.)?
Margie

Yes, You Can Buy Too Much House

Good question! And given the number of people who lose homes that they can’t afford to keep, it’s an important question, too.

People say that you can’t buy too much house. Common thinking once was to buy as much house as you could squeeze into your budget. And why not? Both housing prices and wages should go up over the long term, right?

Unfortunately, the mortgage is due over the short term, and right now, rates are high. If you buy when housing prices are high, the value of your home could potentially drop, perhaps considerably. And not everyone gets a raise each year. In fact, some people lose their jobs. So you can get into a lot of trouble before the long-term increases bail you out.

How Much House Can You Afford? Probably Less Than Many Experts Recommend

OK, so if bigger isn’t always better, how expensive of a house can Margie afford?

According to National Association of Home Builders, thanks to high mortgage rates, many Americans need to spend as much as 38% of their take-home pay to cover housing costs right now. That would include shelter, maintenance, heating and cooling, water, etc. And considerably higher than the 25% to 30% many experts recommend.

So should she plan on spending even 30%? Maybe not. Maggie will need to consider her family situation. Looking for a new house because you’re about to have a baby? Groceries, medical, college savings, and daycare could all require a higher percentage of your money than before.

And past financial decisions will also affect what Maggie can reasonably afford. Alimony and child support are common issues. In fact, Tierney Foster, a long-time Realtor with Remax in Bradenton, FL won’t give a client advice on affordability. She refers them to the lender who will consider their debt ratio and other factors that will affect the calculation.

Interest on any debt that you owe will lower the amount that you can safely spend on housing. In real rough terms (depending on your interest rates), for every $8,000 you have in credit card debt, you have $100 less to spend on housing each month. And that works out to a house that costs $16,000 less.

Remember that you can only spend 100% of your after-tax income without getting into trouble. And you really should be saving a portion of that for things like college education and retirement. If you spend 30% to 40% on a house, and another 30% on food and transportation, you won’t have enough money to cover everything else.

Housing Expenses Aren’t Easily Adjusted If You Over Buy

Another problem that Maggie will run into is that housing expenses aren’t easily adjusted. If you buy a house that’s too expensive, there’s not much that you can do to reduce the mortgage payment by 10%. And, if housing consumes too much of your money, it’s hard to make it up in other areas. You’ll never make up $200 each month by reducing your spending on entertainment! An over-expensive house often puts a family budget in serious jeopardy.

Which brings us back to the question of how much house can Margie afford. There are some broad guidelines that she can use. In most cases, if she’s planning on spending less than 30% of her after-tax income on housing, she should be okay. On the high side, if she’s approaching 37% or going higher (which, unfortunately, may be necessary right now), she’ll need to be very careful.

She might want to check out calculators on the internet. They provide financial information and aren’t affiliated with anyone in the industry, so their advice is neutral. She might also want to check with a mortgage banker or broker and ask for their advice on what would be affordable.

A Simple Trick That Can Help Determine How Much House You Can Really Afford

There is one trick that Margie can use that might prove helpful. She can pretend that she already owns the house that she wants to buy. Estimate how much the new home would cost. Then set aside the difference between that amount and what they’re currently spending on housing for a few months.

In other words, pretend that she’s already paying for the house. She’ll quickly find out whether they can comfortably handle the increase. If she finds that she’s scrambling while playing pretend, she can expect to be in real trouble if she buys the house.

We hope that Margie finds a home that she can love and afford at the same time. But it may have to wait until mortgage rates, housing prices, or both come back down a bit.

Reviewed October 2023

About the Author

Gary Foreman is the former owner and editor of The Dollar Stretcher. He's been featured in MSN Money, Yahoo Finance, Fox Business, The Nightly Business Report, US News Money, Credit.com and CreditCards.com.