It’s obvious why this is the second key consideration of home ownership – you can only own what you can comfortably afford. For this component, I recommend that buyers come up with a lifestyle-based debt to income ratio.
So far as a bank or lending institution is concerned, you may “qualify” for a purchase price that is actually higher than your lifestyle can sustain. In the “old days”, banks were much more conservative, providing loans on a debt/income ratio of 28% to 36%; a borrower’s total monthly debt obligations could not exceed 36% of their income. Although lenders aren’t quite as aggressive as in recent years, debt ratios today range from 40%, 50%, or even higher based on the “grade” of the loan: A, B, or C paper; A paper being the most competitive interest rate and fees.
For a simple example, if you earn $5000.00 a month, your total monthly debt (including your new loan payment) could not exceed $2500.00. With a 20% down payment on a 6.5% fixed-rate loan, that roughly qualifies you for a $500K purchase price and loan amount of $400K. Simple enough. However, the more important question has to do with your monthly budget: can you survive while paying over half of your total income to monthly bills?
Perhaps you’re a “connoisseur” of the Wine County lifestyle: you enjoy good food, good drink, and a social atmosphere. For you, the extra bedroom/office may not be worth dinning in on the weekends. Maybe you’re an entrepreneur and there’s a business opportunity (with an associated expense) that you just can’t afford to miss. Or, maybe you’re perfectly content with a frugal budget and can comfortably stretch your payments for the higher purchase price that will ultimately be the better home and investment for your growing family.
One of my favorite financial gurus called a budget a “list of values in monetary terms”; quite simply, we spend our money on what’s most important to us. It’s your life – decide first what’s most important, then design your “budget” and home purchase price to match.
Now that you’ve answered the big questions it’s time for a little straightforward planning. Regarding financing, there are steps you can take to improve your qualification and ultimate buying power. Even if you have the income to support a loan amount, if your credit is poor, you may end up paying hefty penalties both in up-front fees and on your interest rate, thus ultimately lowering your price range. One simple method, although there are varying opinions on its effectiveness, is paying down your credit cards to at least half their maximum balance. Many lenders agree that this will greatly improve your score.
On a more personal note, you need to determine if your life is in order for a move. Making a home purchase is also a huge investment in both time and emotional energy. Many buyers find themselves soul-searching on a weekly basis between which neighborhood suits them more, or whether they really want that vintage Stick-Victorian style always seemed to catch their eye. Do you have the time and emotional reserve for the task? If a wedding’s in the near future, you’ve just been promoted, or a close family member is in need of support, now may not be the time. After all, why make undertake such an important venture unless you’re good and ready? Of course, there will probably never be a perfect time, but you should definitely give your personal considerations their proper importance.
Let’s recap: you know what you want, you’ve made a budget to fit your values, and you’ve established your timeline. Guess what, now’s the fun part; go find a home! So, start with the end in mind – decide on the future that’s both exciting and accessible to you and then find the home to make it work.
Next steps…that’s what the rest of the Buyer’s Resource is all about. Now that you’ve got the big picture, read these next articles to learn the fundamentals of the entire process – from getting pre-approved to closing escrow.