I Want To Buy A New House - How Much Can I Afford?

Many first time home buyers have this question on their minds: "I want to buy a new home, how much can I afford?" It isn't surprising that many people in this situation feel a little lost.

A home purchase is often the largest single investment you make in your life. You don't often consider buying something that you will be paying for over the next 30 years (at least not intentionally). Nothing in your previous experience prepares you for buying a home. 

When you are new to home buying, it may be hard to determine what is affordable and what is not.  Here, you will learn the steps to figuring out how much house you can afford.

The first step in determining how much you can afford should be to put together a financial plan. Remember, your mortgage payment is a long term commitment, so you should be sure it doesn't interfere with other long term plans you may have.

Start by determining all money you have saved and your sources of income.  Then allocate portions of your income for specific purposes.

You should set some financial goals and create a budget that allows for these goals. You should consider budgeting for things such as:

• Mortgage payment
• Down Payment
• Closing Costs
• Moving Costs

In today's credit tight economy, you will be hard pressed to find 0% financing, so you should plan on making a considerable downpayment.  FHA loans require a minimum 3.5% down payment if you can qualify for them.  Otherwise, count on at least 10% of the purchase price as down payment.

You will also need to come up with closing costs.  Many of these can be negotiated to be paid by the seller, but at a minimum you will probably have to pay loan origination fees.  Count on 2% to 4% of the purchase price as closing costs.

You also want to be sure you can afford the cost of moving furniture and personal property, especially if you are making a long distance move.  You might also need to make deposits to get utilities turned on.

If you don't have enough money available for closing costs, down payment and moving costs, you should budget a fund to save for these expenses.

Your monthly mortgage payment will be more dependent on your recurring expenses, so you will need an overall picture of your finances to determine this amount. 

If you are currently paying rent, the amount you pay will give you a starting point to determine how much you can afford to pay monthly.  Then you will have to consider other recurring expenses of home ownership such as maintenance, insurance, utilities and property tax. 

Many of these additional expenses may be offset by the mortgage interest deduction from your income taxes. 

In addition to costs of buying a home you may also want to include in your budget:

• Maintenance
• Property Taxes
• Homeowners insurance
• Utilities
  
• Family expenses: Marriage, having children, sending them to college
• Vacations
• Retirement
• Medical
• Life insurance
• Entertainment
• Gifts
• Charities

Everyone's individual goals will be different and you may not want to include all of these items or you may want to add more.

You don't want to always be saying "I can't afford to (get married, have children, go on vacation...) because I bought a house."

Buying a house is not just buying a place to live, it's buying a lifestyle.

You shouldn't avoid making a financial plan because it sounds too complicated. Your plan doesn't have to be perfect. It is a lot easier to make adjustments to an imperfect plan than to have no idea where you are going financially.

You can get help setting financial goals and creating a budget here.

Once you have a financial plan, you will be able to see clearly how much you can afford to pay for a monthly mortgage payment, and how much you can afford for a downpayment.

Lenders use a debt to income ratio as a guideline to determining if you can afford a mortgage payment.

For FHA loans there is a limit of 29% of your income to be used for your mortgage payment and 41% of your income for all debt payments. This includes credit cards, child support, car payments, and student loans.

Other loan programs will usually have somewhat stricter guidelines. For more details on debt to income ratio guidelines see MortgageUnderwriters.com.

These guidelines can give you an idea of what you can quailify for, but it is best to have your own budget that determines how much of your paycheck you can afford to pay for a mortgage based on your goals.

You can use a mortgage payment calculator to determine what your monthly payment would be for various purchase price and interest rate combinations.

You can find the prevailing mortgage interest rates below to get an idea of what you will pay, but you will have to get pre-approved by a lender to be sure what rate you qualify for.

With the interest rate from the chart above, you can plug in various purchase prices in the mortgage payment calculator to determine what will be the maximum price you can pay on a home to stay within your monthly payment budget.

So armed with the information from your financial plan, you can determine what monthly payment you can afford and what down payment you can afford.  From these figures you can determine the maximum purchase price you can afford to pay. 

This will give you an idea of the price range of homes you should be looking at. Don't offer to pay as much as you can afford and have no room for negotiation.