As real estate prices rise home ownership may feel farther away than ever for some. Layer on top of that a rising interest rate environment and budgeting carefully for home ownership becomes crucial now more than ever.
When looking to purchase a home you need to determine first and foremost what you can afford. Many people erroneously think all they need to do is go to the mortgage lender, apply for the maximum mortgage they can be approved for and then look for a house to meet their approved value.
This is certainly where you start, but it is only the first step. Whatever maximum mortgage number is pre-approved by your lender is actually your starting point not your end point. The mortgage approval amount is how much they are willing to lend you, not necessarily the amount you can comfortably afford.
The difference between what you can be approved for and what you can afford is lifestyle.
What does your life look like? What do you want it to look like? What do you enjoy doing? What matters most to you? What do you need to budget for outside of your living costs? i.e. Do you take an annual vacation? How frequently do you go for dinner and how much to you spend? Do you enjoy live entertainment and what does that cost? Do your kids play competitive sports with additional expenses and weekends away? These are the types of questions where you will start to find the true answers to what you can afford and considers the lifestyle you want to live.
The mortgage formula does well to account for a certain percentage of your income to be directed to the home expenses therefore assuming the balance of your income can support all of your other lifestyle expenses. But here is the thing; everyone has different lifestyle priorities and budgets associated with how they choose to live so a one size fits all doesn’t work for everyone. This is the layer where you apply your own lifestyle expenses and determine from there if you need to adjust the approved lender amount lower for your own benefit and if so by how much.
The moment people fall in love with a home they think they will be satisfied to give up many of their lifestyle expenses and yes, to own a home often means doing this in some ways. But I can assure you if you stretch yourself to the very top of your budget and leave yourself with no disposable income to live your life you will regret that decision. To be house poor is no fun. What good is it to live in an expensive home but then worry that you can’t afford to go out for dinner, take a trip or save for retirement? You need to look at your situation holistically and make that choice. Strapping yourself in to a mortgage payment that is above your comfort level is no way to live.
Rising interest rates create a whole additional challenge. If you are already struggling to meet your budget needs and your mortgage renews at a higher rate this means an increase your mortgage payment. For some, this increase will be enough to put them into the territory of loosing their home if they have stretched themselves too thin financially.
You can plan to budget and avoid over-extending yourself on the outset. If you are a first-time homebuyer looking to get into the market the first thing you need to do is save, save, save for that down payment. The bigger your down payment the lower your mortgage and mortgage payment will be. The bigger your down payment the more feasible it is to get into a home based on home valuations.
Make a strategy for a regimented down payment savings plan and if it takes a year or two longer to get into that home than you hoped so be it. This decision will pay you in the long run with budget flexibility down the road.
I often suggest couples save the equivalent of a monthly amount they think they would be comfortable spending on mortgage and home ownership expenses and build up their nest egg. In doing so, they also get used to living with that level of expenses and the living on the balance of their income for lifestyle needs. This creates a learning ground to see how this level of financial commitment feels for them and allows adjustments and tweaks to be worked out prior to making the big commitment to purchasing a home.
There is often the question recently of missing out on rising real estate values when considering waiting to purchase. This is completely understandable given the past couple of years have seen unprecedented real estate increases, just as the 2008 credit crisis saw unprecedented drops in the opposite of volatile times. These environments are an anomaly to the long-term norm but certainly most relevant in recent times and a factor worth considering when making your final decision.
Home ownership can be a wonderful thing when done right. Doing the groundwork to set yourself up for success with it will go a long way in the end.
Stephanie Farrow, BA., Certified Financial Planner, Stephanie has over 29 years' experience in the financial services industry, a diploma in Financial Planning from the Canadian Institute of Financial Planning and Certified Financial Planner designation. Stephanie has been writing a financial column for local business magazine Elgin This Month/This Month in Elgin since 2010. Stephanie and her husband own Farrow Financial Services Inc.
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