Right now, you may be trying to decide between renting and buying. There are pros and cons for each, but in many cases, it is preferrable to buy, especially now, since the market is a bit down. You could find a good deal on a house that might appreciate in value over the next 5 to 7 years, after the downcycle runs its course. But before you decide to buy, it is a good idea to figure out how much of a mortgage payment you can afford.
Mortgage payment rule of thumb
One way to figure out home much of a mortgage payment you can afford is to break it down as a percentage of your monthly income. You can use a mortgage payment calculator to figure out the monthly payment on a mortgage at a certain interest rate, and then calculate where that fits into your budget. Most lenders perfer your payment to be about 30% of your monthly income. I like my housing expenses to be no more than 25% of my income. Remember, though, that the mortgage payment calculator usually doesn’t add taxes and other fees to the list, so your payment will probably be higher than you anticipate.
Another mortgage payment rule of thumb is the 45% rule. This is a rule touted by Suze Orman. She says that if you want a mortgage payment similar to what you are paying in rent, you should add 45% to your rent payment. The costs of owning a home are always more than renting, and this will give you a ballpark estimate of the true costs of home ownership.
See if you can afford the mortgage payment
Once you’ve figured out how much of a mortgage payment you think you’ll end up with, you need to see if you can afford it. Figure the difference between your mortgage payment and your current rent. If you pay $900 in rent, and your mortgage payment will be $1300, set aside $400 extra each month. Put it into a savings account. This will give you an idea of what it’s like to make your mortgage payment. If you can do it for six months without feeling the strain or resorting to credit cards to make ends meet, then you can likely afford the mortgage payment. And you can use the money you saved up to put toward points or closing costs.
Things to rememer: You can get a better deal if your credit score is good shape. Don’t let “creative financing” fool you. Things like interest only home loans may seem good, because they get you into more house for your mortgage payment up front, but the later costs can be devastating.