For the last few years, it’s no secret that the housing market has been booming in many parts of the country. If you’re thinking of buying a home, it’s important to make sure you do not overspend and wind up feeling “house poor” with no room for fun vacations or savings for future goals. A house should be a place of comfort and stability, not a source of stress. In this blog post, we will discuss two stress tests that will help you consider how much house you can comfortably afford.
With interest rates at the highest they have been in the last 10 years, we have narrowed it down to two calculations to help ensure you do not overextend yourself.
It is important to note that often banks will approve you for over 2x the price of what we recommend, but just because they approve you does not mean you can afford it in the context of balancing living stress free today, while also achieving college savings, retirement savings, etc.
Stress Test #1: Percentage of Net Take Home Pay: The first calculation is taking 30% of your net take home pay, and ensuring that your payment (including principal, interest, taxes, and insurance) does not exceed this. For example, someone earning a gross income of $200k who would approximately have a net take home of approximately $10k/mo (after taxes, payroll deductions, and 401k contributions). In this example, the total mortgage payment should be within $3k/mo, which would be a mortgage loan of $350k – 400k based on a 5% interest rate, and assuming taxes of approximately 2% of the home value.
Stress Test #2: Multiple of Gross Income: The second calculation is simply taking gross income and multiplying it by 2. So again, if a family is earning $200k, the max mortgage limit should be at or near $400k.
Mortgage Terms: When it comes to length of mortgage, the 2 most common durations are 15-year and 30-year mortgages. In general, it is advantageous to take a longer-term mortgage when interest rates are low because although you will carry the debt for a longer period (and therefore pay more interest), it is likely that you will come out ahead if the lower payment allows you to save your money elsewhere. For example, a 15-year mortgage will have a higher payment than a 30-year, so you may not be able to dedicate funds to other savings such as your 401(k), Roth IRA, brokerage account, etc.
As with all aspects of financial planning, balance is crucial, and it is important that all pieces of your plan work together to support you and your lifestyle. We have found that sticking to these metrics will leave plenty of room in the budget for other goals, such as saving for college, saving for financial independence planning, and also spending on “fun things” like vacations, hobbies, etc. so you can enjoy life today.
Equilibrium Wealth Advisors is a registered investment advisor. The contents of this article are for educational purposes only and do not represent investment advice.
Stock markets are volatile, and the prices of equity securities fluctuate based on changes in a company’s financial condition and overall market and economic conditions. Although common stocks have historically generated higher average total returns than fixed-income securities over the long-term, common stocks also have experienced significantly more volatility in those returns and, in certain periods, have significantly underperformed relative to fixed-income securities. An adverse event, such as an unfavorable earnings report, may depress the value of a particular common stock held by the Fund. A common stock may also decline due to factors which affect a particular industry or industries, such as labor shortages or increased production costs and competitive conditions within an industry. For dividend-paying stocks, dividends are not guaranteed and may decrease without notice.
Past performance is no guarantee of future results. The change in investment value reflects the appreciation or depreciation due to price changes, plus any distributions and income earned during the report period, less any transaction costs, sales charges, or fees. Gain/loss and holding period information may not reflect adjustments required for tax reporting purposes. You should verify such information when calculating reportable gain or loss.
This content has been prepared for general information purposes only and is intended to provide a summary of the subject matter covered. It does not purport to be comprehensive or to give advice. The views expressed are the views of the writer at the time of issue and may change over time. This is not an offer document, and does not constitute an offer, invitation, investment advice or inducement to distribute or purchase securities, shares, units or other interests or to enter into an investment agreement. No person should rely on the content and/or act on the basis of any matter contained in this document. The tax and estate planning information provided is general in nature. It is provided for informational purposes only and should not be construed as legal or tax advice. Always consult an attorney.
In just 15 minutes we can get to know your situation, then connect you with an advisor committed to helping you pursue true wealth.
Add me to the weekly newsletter to say informed of current events that could impact my investment portfolio.
Securities and advisory services offered through EWA LLC dba Equilibrium Wealth Advisors (a SEC Registered Investment Advisor).
* Government bonds and Treasury Bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of fund shares is not guaranteed and will fluctuate.
* Corporate bonds are considered higher risk than government bonds but normally offer a higher yield and are subject to market, interest rate and credit risk as well as additional risks based on the quality of issuer coupon rate, price, yield, maturity, and redemption features.
* The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. You cannot invest directly in this index.
* All indexes referenced are unmanaged. The volatility of indexes could be materially different from that of a client’s portfolio. Unmanaged index returns do not reflect fees, expenses, or sales charges. Index performance is not indicative of the performance of any investment. You cannot invest directly in an index.
* The Dow Jones Global ex-U.S. Index covers approximately 95% of the market capitalization of the 45 developed and emerging countries included in the Index.
* The 10-year Treasury Note represents debt owed by the United States Treasury to the public. Since the U.S. Government is seen as a risk-free borrower, investors use the 10-year Treasury Note as a benchmark for the long-term bond market.
* Gold represents the afternoon gold price as reported by the London Bullion Market Association. The gold price is set twice daily by the London Gold Fixing Company at 10:30 and 15:00 and is expressed in U.S. dollars per fine troy ounce.
* The Bloomberg Commodity Index is designed to be a highly liquid and diversified benchmark for the commodity futures market. The Index is composed of futures contracts on 19 physical commodities and was launched on July 14, 1998.
* The DJ Equity All REIT Total Return Index measures the total return performance of the equity subcategory of the Real Estate Investment Trust (REIT) industry as calculated by Dow Jones.
* The Dow Jones Industrial Average (DJIA), commonly known as “The Dow,” is an index representing 30 stock of companies maintained and reviewed by the editors of The Wall Street Journal.
* The NASDAQ Composite is an unmanaged index of securities traded on the NASDAQ system.
* International investing involves special risks such as currency fluctuation and political instability and may not be suitable for all investors. These risks are often heightened for investments in emerging markets.
* Yahoo! Finance is the source for any reference to the performance of an index between two specific periods.
* The risk of loss in trading commodities and futures can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. The high degree of leverage is often obtainable in commodity trading and can work against you as well as for you. The use of leverage can lead to large losses as well as gains.
* Opinions expressed are subject to change without notice and are not intended as investment advice or to predict future performance.
* Economic forecasts set forth may not develop as predicted and there can be no guarantee that strategies promoted will be successful.
* Past performance does not guarantee future results. Investing involves risk, including loss of principal.
* The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee it is accurate or complete.
* There is no guarantee a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.
* Asset allocation does not ensure a profit or protect against a loss.
* Consult your financial professional before making any investment decision.
In 15 minutes we can get to know you – your situation, goals and needs – then connect you with an advisor committed to helping you pursue true wealth.