When you're buying a house, you need to set a realistic budget. But it can sometimes be hard to figure out how to do that. While it may be tempting to allow the bank to just look at your finances and tell you how large your mortgage loan can be, it's smarter to do the math yourself to make sure you're taking all your financial goals into account.
If you aren't sure where to start when determining how much house is within your budget, some advice from finance expert Dave Ramsey could potentially be helpful in answering this question.
Here's what Ramsey says you can pay for a house
Dave Ramsey has a simple answer to the question of how big your housing budget should be.
"We recommend keeping your mortgage payment to 25% or less of your monthly take-home pay," Ramsey said. He gave the example of someone who brings home $5,000 a month, who would be able to afford a monthly mortgage payment totaling $1,250 on the basis of that income.
After calculating how much mortgage you can cover with your income, you can work backward from there to decide how much you can afford to borrow in total -- and thus how much you can afford when adding your loan to your down payment. The exact amount you'll be able to borrow while sticking within this 25% limit is going to vary depending on what mortgage rates are at the time you buy your house.
Ramsey urges keeping your housing costs to this level or below so you avoid committing to more than you can comfortably afford to pay. "Buying too much house can quickly turn your home into a liability instead of an asset," he warned.
Ramsey also suggested doing the calculations and setting your budget before you even meet with a real estate agent, so you don't find yourself wasting time looking at houses above your price range (or, worse, falling in love with one and stretching to buy it).
Should you listen to Ramsey?
Most experts recommend keeping total housing costs to about 30% of your income or less, while Ramsey is suggesting setting your limit at 25%. Lenders will also give you a little bit more leeway, with most lenders preferring you keep your total housing payment -- including principal, interest, property taxes, and insurance (PITI) -- to about 28%.
But trying to stick close to this 25% range is a good idea if it is possible for you. You don't want to overcommit to a huge housing payment because that would leave you less money for things like retirement savings and big purchases you might want to make over time. And a small decline in income could leave you stressed about how to cover the bills if you stretched to the top of your budget to buy a home.
The bottom line is, being house poor is a really stressful situation to be in, so by following Ramsey's advice and not spending more than 25% of your take-home pay on your house, you can avoid this unpleasant situation and likely end up happier in your home.
