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What’s Your Home Buying Power?

Jan 13, 2018
What’s Your Home Buying Power?
If you’re in the market for a new home or investmentproperty, one of the first questions you’ll probably ask is, “What can weafford?” Many buyers become so caught up in how much they can afford that theydon’t realize their total buying power—that is, the total amount ofpurchasing potential they actually have.

Buying Power Defined

Your buying power is comprised of the total amount of moneyyou have available each month for a mortgage payment. This means the money youhave each month after fixed bills and expenses. Any money you’ve saved for adown payment, the proceeds from the sale of your current home, if applicable,and the amount of money you’re qualified to borrow all impact your buying poweras well. When you take all of this into account, you may find you are able topurchase a larger home or a home in a more desirable neighborhood, or you mightrealize you should be looking for homes in a lower price range.

What About HousingAffordability?

Housing affordability is a metric used by realestate experts to assess whether or not the average family earning an averagewage could qualify for a mortgage on the average home.¹ Althoughthis figure is essential to creating a comprehensive overview of the realestate market, it’s not a factor you should consider in your home search. Whatmay be considered affordable to you based on your income and other factors maybe different than what’s affordable to the average buyer.

Why Buying PowerMatters

A common misunderstanding is that a home’s list pricedetermines whether or not you can purchase it. Although it’s important to lookat the price tag, it’s essential to consider what your monthly payment will beif you own the home. After all, the purchase price doesn’t include the housing-relatedexpenses, such as annual property taxes, homeowner insurance, associatedmonthly fees and any maintenance or repairs. Figuring out the payment willprevent you from overestimating or underestimating your buying power. Afterall, you’ll live with your monthly payment, not the sales price.

Once you have clarity on your buying power, you’ll be ableto buy the home you want, instead of settling for a home because you feel it’sthe only one you can afford. It will also prevent you from becoming “housepoor,” a common term for someone who’s put all their money toward the downpayment, leaving them nothing left over for fees outside of their monthly housepayment. Both scenarios can negatively impact the lifestyle you want to live.Understanding your buying power can help you get the home you want withoutsacrificing the lifestyle you desire.

If you haven’t soldyour current home yet, a Comparative Market Assessment (CMA) will give you ageneral idea of how much you may get for your home based on what other homeshave sold for in your area. Contact our team for a FREE CMA!

Calculating YourBuying Power

You might be wondering, “How do I know what my buying poweris?” Buying power is calculated by adding the money you’ve saved for a downpayment and/or the money you made from selling your home (minus fees andmortgage payoff) to all of your sources of income and investments that could beused to make your monthly payment. Make sure to include your monthly pay,commissions or tips, dividends from investments, payments from rentalproperties or other monthly income you receive as well as the loan amountyou’re willing to finance and qualify for.

Most lenders advised buyers to spend no more than35 to 45 percent of their pretax income onhousing, meaning all your income and sources of revenue prior to paying taxes.Make sure you factor in not only your mortgage payment, but also property taxand home insurance to the cost of housing.² However, other financialexperts advise spending no more than a very conservative 25 percent of yourafter-tax income on your housing expenses.²  Whether you plan to spend the average, playit conservative or split the difference is up to you.

Traditionally,mortgage lenders have targeted the ideal housing expense amount to be a ratioof 28 percent or less.³

However, these figures bring up an important point: youdon’t have to spend all of your savings and available monthly income on amortgage payment. It’s important to set money aside for regular homemaintenance, unexpected repairs and monthly fees, such as a condominium orhomeowners association fee. While the above ratios are commonly accepted, alender will look at your total financial picture when they decide how muchthey’re willing to lend. It may be tempting to take out a large loan in orderto purchase the home of your dreams, but keep in mind the less money you haveto borrow, the stronger your buying power may be.

4 Things That ImpactBuying Power

1. Credit score.Agreat score can help you lock into a lower interest rate.

2. Debt-to-incomeratio. The lower the ratio, the better risk you may be to lenders as longas you have an established credit history.

3. Assets,including the documentation of where the money for the purchase is coming fromand the mix of your investments.

4. Down payment.The more you’re able to put down, the less you will have to borrow. With a downpayment of 20 percent or more, you won’t have to purchase private mortgageinsurance (PMI) and you may also be able to negotiate a lower interest rate.

How to Save for a Down Payment

If you’re thinking of buying a home one day, one of thefirst steps to take is to start saving for a down payment. Here are some tipsto make saving easier.

First-time buyers:

1. Set a savings goal.One way to figure out how much to save is to use the average sales price forhomes that are similar to what you want and figure out your target down paymentpercentage. For example, if homes are selling for $200,000 in your area and youwant to put 20 percent down, you’ll have to save $40,000. Set a goal to savethat amount within a specific time frame; just keep in mind the longer yousave, the more the average selling price will change. Although the majority ofbuyers saved for six months or less, 29 percent of all buyers (and 31 percentof first-time buyers) saved for more than two years for a down payment.⁴

2. Cut back onexpenses.Review your monthlyexpenses and look for ways to save. Twenty-nine percent of buyers cut spendingon non-essentials items and 22 percent cut spending on entertainment while theywere saving for a home.⁴ Think about items you can live without orcut back on temporarily while you’re saving.

3. Look for ways toboost your income.Get a sidejobor sell items online or at agarage sale to increase your income in a short amount of time. Be sure to saveany windfalls you get, including your annual income tax refund or work bonuses.

4. Check out home-buying programs.Your state, county or local governmentmay offer special programs, such as grants, for first-time buyers to use.

5. Ask your family.Thirteen percent of all buyers, and 24percent of first-time buyers, were given money from family or friends to usetoward the down payment of their home.⁴

Repeat buyers:

More than 52 percent of repeat buyers used the proceeds fromthe sale of their primary residence toward the down payment on their next home.⁴Similarly, 76 percent tapped into their savings accounts.⁴ If you’rethinking of buying another home, here are more ways to save more money, inaddition to the tips listed above:

1. Rent a room.If you have an income flat (ormother-in-law unit) attached to your home, rent it out and channel the incomeinto a high-interest savings account.

2. Make your moneywork for you.If you don’t planto buy for at least five years, invest it and let the compound interest workfor you. Discuss this option with your financial planner or broker to see ifthis is ideal for you and your goals.

3. Tap into your401(k).If you have a 401(k)plan, you may be allowed to borrow a portion of it, the lessor of up to $50,000or half of its value, for your down payment. Remember, it’s a loan so you’llhave to pay it back. If you leave or lose your job before you’ve repaid theloan, you’ll have between 60 to 90 days to repay the balance or face stifftaxes and penalties.

If you want to buy aninvestment property

Whether you’re buying a second home or a rental property,here are a couple tips to save for a down payment.

1. Tap into yourequity.If you’ve paid off orpaid down your mortgage on your primary home, you may be able to tap into yourequity to purchase another property. Contact your lender to learn more about aHELOC or home equity loan.

2. Get a partner.Find a friend or relative who’swilling to purchase property with you. Typically, you’ll split the costs andprofits equally. Just make sure to work with an attorney to create apartnership agreement to fit your situation.

Work Out Your Buying Potential

What’s your buying potential? Fill out this worksheet to getan estimate.

Source: Iowa State University Extension, What is your house-buying power?

Monthly Payment on30-Year Fixed Rate Mortgage

Didn’t see yourdesired loan amount? Use the table below to estimate your monthly payment(principal and interest) per $1,000 of your loan. To figure out an estimatedloan payment, multiply the factor by the number of thousands in the amount ofyour mortgage.

For example, if you intend to borrow $400,000, with a loanterm of 30 years at 4% interest, multiply 4.77x 400 = $1908 per month.

Source: HSH.comhttp://www.hsh.com/mopaytable-print.html)

Don’t forget tofactor in property taxes and insurance. These are often added to yourprincipal and interest of your mortgage payment—the money used to pay down the balance ofyour loan and the charge for borrowing the money. Since these numbersvary, contact your county assessor’s office for the current property tax rateand your insurer for a home insurance quote. Once you have these figures,divide each by 12 to estimate how much they’ll add to the above paymentamounts.

Do you want a clearerpicture of your buying power? Would you like to see what kind of homes you canget with your buying power? Give us a call!

Sources: 1.National Association of REALTORShttps://www.nar.realtor/topics/housing-affordability-index/methodology

2.Moneyunder30.comhttps://www.moneyunder30.com/percentage-income-mortgage-payments

3.Credit.comhttps://www.credit.com/loans/mortgage-questions/how-to-determine-your-monthly-housing-budget/

4.National Association of REALTORS, 2016 Profile of Home Buyers and Sellers

5. Iowa State UniversityExtension, What is your house-buyingpower? https://store.extension.iastate.edu/product/pm1460-pdf

6.HSH.comhttp://www.hsh.com/mopaytable-print.html