Individuals in the process of buying a home with a mortgage know the process of getting a loan approval comes with a maximum loan amount. However, many mistake this for what they can actually afford.
No. The maximum loan amount is what the bank feels that you should be able to afford. However, outside of looking at outstanding debt, they really don’t have a feel for what your lifestyle or financial goals are; and they can vary greatly by the individual. Take for example the following 3 families* who all live in the same area and purchase 3 varying levels of homes with a housing payment, approved by the bank, equal to 36% their income.
Family #1 (Single Family Home) - $250,000 Income, 35% to income/payroll taxes
Family #2 (Town Home) - $150,000 Income, 30% to income/payroll taxes
Family #3 (Apartment) - $50,000 Income, 15% to income/payroll taxes
After all is said and done, Family #1 has $6,000/month left over, #2 has $4,000, and #1 has $2,000. If they live in the same cost of living area, those families are going to have drastically different standards of living even though the bank believes they each can afford their own mortgages. Before accepting the maximum loan amount, take a moment to think about what you personally can afford and what other expenses you have that the bank might not consider. Things like gifting/tithe’s, travel, daycare, upcoming new car purchase should be factored in.
Disclaimer: Alex Voorhees and Reston Wealth Management do not provide legal, accounting or tax advice. This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified investment, tax or legal advisor. All of these examples are estimates and should be taken as such. The opinions voiced in this article are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) or strategies may be appropriate for you, consult your financial advisor prior to investing. No strategy assures success or protects against loss. You should consider the investment objectives, risks, charges and expenses of any investment carefully before investing.
*Source: Kitces, Michael. “Why It's Bad To Borrow Based On Debt To Income Limits.” Nerd's Eye View | Kitces.com, 17 Aug. 2016, www.kitces.com/blog/debt-to-income-dti-lending-guidelines-are-bad-affordability-targets/.