Can I Afford: A House?

Can I afford a house?
Buying a house is an essential part of the American Dream. A home is not only a great investment, but it also provides vital safety and shelter for us and our families. However, while buying a home or condominium is exhilarating, it might not be in your best interest financially. Buying a home is a huge financial transaction and involves decisions that need careful consideration and thorough planning. There are three important tests that will help you determine whether you can really afford a house: the housing ratio, debt obligation ratio and down payment percentage.

Take Alan, a marketing manager for a large company, as a perfect example. Alan plans to eventually have a family and wants to move out of his apartment and get settled into a home. He consulted a financial planner to assist in answering his question, "Can I afford a house?" To help Alan realize his goal of homeownership, the financial planner crunched some numbers using the three calculations listed above. Here are the results.

Housing Ratio

30% of gross monthly income

The housing ratio is the percentage of your gross monthly income that will be devoted to housing expenses when you are living in your new house. There are many hidden costs when it comes to homeownership, including utilities, repairs, maintenance, and insurance. It's important to prepare a budget for these expenses before you move into your new home.

Financial experts recommend this prepared budget number to be 30%, plus or minus a few percentage points. To calculate this number you can take your gross income and multiply by .30. This number should be the total annual amount to be allocated for housing expenses. When Alan asked, "can I afford a house?" the financial planner used his gross income of $85,000 and multiplied it by .30, then divided the sum by 12 for the number of months to come up with $1,983.33. Therefore, Alan can afford a mortgage payment of just under $2,000 including insurance costs and other fees.

Total debt obligation ratio

No more than 36% of gross monthly income

The total debt obligation ratio is the percentage of your income that covers housing expenses and other obligations such as credit cards or car loan payments. Financial experts recommend that this number not exceed 36%.

Luckily for Alan, he has already paid down all of his debt, including his car payments. Alan currently drives a used car and plans to keep it for several more years. He also has an emergency fund stored in his checking account at the local bank to protect him in case of unforeseen expenses.

"Can I afford a house?" A few more things to consider before you decide... Next >>