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What percentage of my budget should the mortgage be?

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A word to the wise: The ratio that the lender will likely quote for you should be considered the MAXIMUM, not a recommendation. It is the number where they start getting nervous about getting paid back on the loan. –  JohnFx May 10 '12 at 18:45

2 Answers 2

up vote 17 down vote accepted

In the old days, a well-written mortgage was based on the mortgage and property tax being less than 28% of one's gross income, and total debt including these, no more than 36%. A 20% downpayment was required. I dare say that if these rules had been followed, the bubble would not have occurred, and had it still occurred it would not have been as severe.

Let's look at that 28% number. A $60K income gives you $1400/mo for the mortgage and property tax. At 5%, a $200K loan (30 yr fixed) is $1074. That leaves $326 x 12 = $3912 for taxes, more than enough in most towns.

So, in conclusion, you can get a mortgage of just over 3X your income and stay within the guidelines if you put that nice downpayment. I am a fan of only going 2X, a $135K mortgage and getting it on a 15 yr loan. You will be paying it down far faster, and not regret the decision.

Update - The rates are lower, in 2013 we still see the 30 year as low as 4%. The same $1074 payment will support a $225K loan.

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There are areas of the country which have disproportionate housing costs, so a general rule would fail. Though the general rule in the U.S. is 28% for housing costs, let me recommend 25% as a conservative value, which will allow a little room for the inevitable housing expenses (lawn maintenance, repairs, etc).

That said, some areas of the country have high housing costs, and people just learn how to live with a higher percentage of their budget spent on housing. This tends to work because everyone in the same community has similar challenges, and society adjusts.

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