When purchasing a home
It's easy to get swept up in the excitement of finding the perfect place to live. But it's important to remember that owning a home comes with financial responsibilities beyond just the purchase price. Due to many factors including recently rising mortgage rates, rising home prices, general inflation, and decreased housing affordability, one of the biggest pitfalls of becoming a homeowner is finding yourself being "house poor” after you’ve made your home purchase.
Let’s define the term “house poor”
To be house poor means that a person or family has spent so much money on their home, such as the mortgage payment, property taxes, and maintenance costs, that they have little disposable income left over to cover their other expenses. This can make it difficult to maintain a comfortable lifestyle and can cause financial stress. Being house poor can happen when people buy a house that they can't afford, or when they underestimate the ongoing costs of homeownership. It's important to avoid becoming house poor to ensure a comfortable lifestyle and financial stability.
So, how do you avoid becoming house poor?
Being house poor can be stressful and can make it difficult to maintain a comfortable lifestyle. Fortunately, there are steps you can take to avoid this situation and ensure that you can enjoy your home without sacrificing your financial well-being.
Here are some tips to avoid being house poor:
1. Determine what you can afford
Before you start looking for a home, it's essential to determine what you can afford. Have your own budget put together, regardless of what your chosen mortgage lender will approve. This means looking at your income, expenses, and debts to determine how much you can realistically spend on a home. A general rule of thumb is that your housing payment should not exceed 28% to 30% of your gross monthly income (pre-tax). Maybe it’s a better calculation for you to base this on 30% to 34% of your take-home (after-tax) income, instead. There are a lot of general rules, though, and there are exponentially more individual situations and scenarios to which to apply those rules. Your budget is YOUR budget. Get to know it well, upfront, and don’t get swayed to exceed what you determine to be your walk-away number.
2. Consider all costs
Educate yourself about all of the recurring costs of owning a home. When buying a home, it's easy to focus solely on the purchase price, how much you’re financing and the principal and interest monthly payment. However, there are other costs to consider, such as property taxes, home insurance, utilities, and maintenance expenses. What are the needs of the particular home you’re in the market to buy? Does it need work or renovation? Is there a pool or high-maintenance lawn or landscaping that will have higher costs to maintain? Make sure to factor in all of these costs when determining what you can afford.
3. Save for a down payment
Saving for a down payment can help you avoid being house poor by reducing your monthly mortgage payments. Makes sense, right? You’re financing less and you may be able to reduce or avoid any additional costs for private mortgage insurance. The more you can put down, the lower your mortgage payment will be, leaving more room in your budget for other expenses.
Your down payment savings, it’s important to note, should be separate from your general savings and emergency funds. If you use up all of your savings and emergency funds in order to buy your home, this is not a good sign.
See some tips I put together about setting goals and saving for a down payment to buy a home.
4. Be realistic
While it's tempting to go for the biggest and best house you can afford, it's essential to be realistic about your needs and what you can afford. A larger home may (and likely will) mean higher utility bills and maintenance costs, which can quickly add up. If you’ve been apartment living and you’re now buying a larger single family home with a yard, your utilities and expenses will be higher. Consider your lifestyle and what you really need in a home before making a purchase.
5. Don't forget about emergency funds
As mentioned, do not deplete your rainy-day savings toward your home purchase. Unexpected expenses can arise, so it's crucial to have an emergency fund in place to cover unexpected home repairs or other expenses. It’s important to know that somewhere between 20% and 30% of new homeowners do experience some type of unexpected repair expense during their first year of home ownership. Aim to have at least three to six months' worth of living expenses saved in an emergency fund. You have to expect the unexpected and certainly have emergency savings socked away for when something arises.
6. Get pre-approved for a mortgage
Getting pre-approved for a mortgage can help you determine your budget and make it easier to find a home that fits your budget. It can also help you avoid overspending on a home that you can't afford. However, (and this is a BIG however) mortgage lenders’ guidelines may allow 43%, 45% or even up to 55% of your gross monthly income to be used to service your monthly debts. Do not simply rely on your lender and their pre-approval to make the monthly budget decisions for you!
There used to be a lot more in the way of focus in determining and using front-end debt to income ratio (housing monthly expense) and back-end debt to income ratio (total debt monthly expense). These lines have become blurred in recent years due to “underwriter discretion”.
So don’t just trust your lender’s pre-approval. It may be based on you devoting 40%, or more, of your gross (pre-tax) income to your monthly housing payment.
See tip #1 above. Your own approval of your own budget is far more important than what your lender says is good.
7. Work with a reputable, experienced real estate agent
A reputable, experienced and knowledgeable real estate agent can help you find a home that fits your budget and lifestyle. They may even tell you, on occasion, “you know what, I don’t think this is the right house for you.” Find and work with an agent that is not just trying to sell you a house for the highest price and cash a commission check. The right agent can provide valuable insight into the local housing market and help you navigate the home-buying process and will also act as a true fiduciary to make sure that your best interests are being served.
You must assemble the right team for yourself as far as Real Estate Agent and Mortgage Lender.
In Conclusion:
Being house poor can be a stressful and challenging situation to be in. There’s a variety of reasons for this. Always feeling like you’re right on the verge of being forced to have to sell your home is an uncomfortable situation. When someone is forced to sell, it’s rarely (if ever) a good situation. Typically, this may wind up being referred to as a distressed sale. Those sales typically have to take place quickly, the home may be in a state of disrepair or have deferred maintenance, and that right there is a recipe for not getting the highest possible sales price. However, with careful planning and consideration, you can avoid this situation and enjoy your home without sacrificing your financial well-being. By determining what you can afford, considering all costs, saving for a down payment, being realistic, having emergency funds, getting pre-approved for a mortgage, and assembling the right team working with a reputable real estate agent and an awesome mortgage loan officer, you can find a home that fits your budget and lifestyle. The right team can educate you so you can make the best possible decisions for yourself.
