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Let me start by saying that I've already read

How big of a mortgage can I realistically afford?

And

How much house can I afford, waiting around 3 years or so

But those questions are very narrow, specific, and not widely applicable.

I'm trying to figure out how much house I can afford. I've used a few online calculators, but the numbers that come back are very high in my opinion. I also don't trust them much because the realtors and mortgage companies that create them have something to profit from by making people think they can afford more house than they really can.

So, long story short...

What's the formula for figuring out my house shopping budget?

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3 Answers 3

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There is no simple way to calculate how much house any given person can afford. In the answer keshlam gave, several handy rules of thumb are mentioned that are used as common screening devices to reject loans, but in every case further review is required to approve any loan.

The 28% rule is the gold standard for estimating how much you can afford, but it is only an estimate; all the details (that you don't want to provide) are required to give you anything better than an estimate.

In the spirit of JoeTaxpayer's answer I'm going to give you a number that you can multiply your gross income by for a good estimate, but my estimate is based on a 15 year mortgage. Assuming a 15 year mortgage with a 3% interest rate, it will cost $690.58 per $100,000 borrowed. So to take those numbers and wrap it up in a bow, you can multiply your income by 3.38 and have the amount of mortgage that most people can afford. If you have a down-payment saved add it to the number above for the total price of the home you can buy after closing costs are added in.

Property taxes and insurance rates vary widely, and those are often rolled into the mortgage payment to be paid from an escrow account, banks may consider all of these factors in their calculators but they may not be transparent.

If you can't afford to pay it in 15 years, you really can't afford it. Compare the same $100k loan: In 30 years at 4% you pay about $477/month with a total of about $72k in interest over the life of the loan. In 15 years at 3% you pay about $691/month but the total interest is only $24k, and you are out of the loan in half of the time. The equity earned in the first 5 years is also signficantly different with 28.5% for the 15 year loan vs. 9.5% on the 30 year loan.

Without straying too far into general economics, 15 year loans would also have averted the mortgage crisis of 2008, because more people would have had enough equity that they wouldn't have walked out on their homes when there was a price correction.

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$100K of mortgage debt at 4%, 30 years will result in a $477/mo mortgage. It would take about $23K in income to have 25% of the monthly income cover the mortgage.

This means, that with no other large debts, a bank will lend you about 4X your income.

If, instead of 25%, we decided that having 20% of income go to the mortgage, the ratio drops to just over 3X.

In the end, it comes down to keshlam's advice regarding a budget. I think the question can't be answered as asked, given the fact that you offer no numbers. For the average person, credit card debt, student loans, and cars payments add up to enough to chip away at the amount the bank will lend you. Since (per one of the linked questions) the maximum debt service should be 36%, you start with that and subtract all current payments.

If this doesn't suffice, let us know what, exactly you're looking for .

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    I think that does it actually. I didn't want to give specific numbers because I want to do the math myself. I just wasn't sure how to calculate it. I still find it funny that you think you can calculate it if I provide more numbers, but seem unwilling to simply state how to calculate it.
    – RubberDuck
    Jan 31, 2016 at 20:50
  • To clarify, I'm less worried about how much a bank will lend me, and how to figure out that I can afford a $xxx home.
    – RubberDuck
    Jan 31, 2016 at 20:52
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    Understood. But I think I did spell out the process to do the calculation. Keep in mind, with no other debt, an $80K earner might qualify for a $400K loan, and with good down payment, that's $500K house. Definitely too much in my opinion. The bank will happily sell you enough rope to hang yourself.
    – JTP - Apologise to Monica ♦
    Jan 31, 2016 at 20:53
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    To your second comment, that's when keshlam's answer kicks in. The budget.
    – JTP - Apologise to Monica ♦
    Jan 31, 2016 at 20:54
  • Exactly why I don't trust those calculators. Thanks @JoeTaxpayer. I think I've got enough here to work it out.
    – RubberDuck
    Jan 31, 2016 at 20:55
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Fundamentals:

  • Have a budget.
  • Understand your currebt cashflow.
  • Determine how much you can afford to pay per month without putting yourself at risk by drawing down your emergency funds or unacceptably cutting into your other expenses and investments.

Then remember that you want to put 20% or more down in cash, to avoid PMI, and recalculate with thatmajor chunk taken out of your savings.

Many banks offer calculators on their websites that can help you run these numbers and figure out how much house a given mortgage can pay for.

Remember that the old advice that you should buy the largest house you can afford, or the newer advice about "starter homes", are both questionable in the current market.

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Added:

If you're willing to settle for a rule-of-thumb first-approximation ballpark estimate:

  • Maximum mortgage payment: Rule of 28. Your monthly mortgage payment should not exceed 28 percent of your gross monthly income (your income before taxes are taken out).

  • Maximum housing cost: Rule of 32. Your total housing payments (including the mortgage, homeowner’s insurance, and private mortgage insurance [PMI], association fees, and property taxes) should not exceed 32 percent of your gross monthly income.

  • Maximum Total Debt Service: Rule of 40. Your total debt payments, including your housing payment, your auto loan or student loan payments, and minimum credit card payments should not exceed 40 percent of your gross monthly income.

As I said, many banks offer web-based tools that will run these numbers for you.

These are rules that the lending industy uses for a quick initial screen of an application. They do not guarantee that you in particular can afford that large a loan, just that it isn't so bad that they won't even look at it.

Note that this is all in terms of mortgage paymennts, which means it's also affected by what interest rate you can get, how long a mortgage you're willing to take, and how much you can afford to pull out of your savings. Also, as noted, if you can't put 20% down from savings the bank will hit you for PMI.

Standard reminder: Unless you explect to live in the same place for five years or more, buying a house is questionable financially. There is nothing wrong with renting; depending on local housing stock it may be cheaper. Houses come with ongoung costs and hassles rental -- even renting a house -- doesn't. Buy a house only when it makes sense both financially and in terms of what you actually need to make your life pleasant. Do not buy a house only because you think it's an investment; real estate can be a profitable business, but thinking of a house as simultaneously both your home and an investment is a good way to get yourself into trouble.

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  • That's not incredibly helpful. I know these things. I'm looking for, Salary - Expense * SomeUnknown = Total Mortage You can afford
    – RubberDuck
    Jan 31, 2016 at 20:07
  • It isn't that simple, unfortunately. Your cost of living -- which includes your personal lifestyle as well as costs in the area you want to live in -- and how much you're willing to let that change plays a huge role in this calculation. So do your savings, because that affects whether the bank will issue the loan. If you're looking for a rule of thumb, I can add a few -- but they're sanity-check guidelines, not real answers.
    – keshlam
    Jan 31, 2016 at 22:08
  • @RubberDuck: Added some rough guides on what a bank will consider worth looking at. As joetaxpayer points out, that may not actually be what you can afford.
    – keshlam
    Jan 31, 2016 at 22:36
  • Bear in mind as well that current mortgage rates (at least in the UK) have been at a historic low for a VERY long time. The only way is up... make sure you can afford the interest payments should rates rise significantly.
    – Vicky
    Feb 1, 2016 at 11:54
  • @Vicky: This is definitely not the time to get a variable-rate mortgage.
    – keshlam
    Feb 1, 2016 at 14:25

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