It’s Time to Buy a Home
It’s okay to be a little afraid; it’s a big step. Here’s what you should look at before you leap.
Having children brings with it huge changes, not the least traumatic and rewarding of which can be a change of address. Moving from a “couple” to a “family” is often the impetus for people to move from renting to buying. They need more space. They need a neighbourhood with a school. They need a backyard.
If you're considering buying your first home, you may feel fear, or even dread, at the idea of making such a huge commitment. Be brave and read on.
There are two things you have to think about when you decide you want to buy a home:
- How much can you afford to spend?
- How large a mortgage payment can you handle?
One rule of thumb you can use to see how much you can afford is to multiply your gross annual income (your income before taxes) by 2.5. So if you make $60,000 a year, you'd be able to afford to spend $150,000 on a home.
Include only income you're sure you will receive — so no bonuses and no “potential” commissions. And if you and your spouse both have incomes, and you both intend to keep working after Sweet Pea arrives, add them together. (This is referred to as your household income.)
Having thought about how much house you can afford, now you'll need to consider how you'll work those mortgage payments into your spending plan. Financial institutions use a calculation called “debt service ratio” to calculate how much they'll lend you. It's based on how much they think you can afford to repay each month. Usually, lenders won't allow your debt service ratio to go above 30 percent. Since this is what the industry uses, it's a pretty good idea to use this as a starting point to determine how much you can afford. You'll also have to add in the down-payment you'll need to get into the house, and the total will be how much you can spend in all.
To see how this works, let's say your gross income is $6,000 a month. Thirty percent of that would be $1,800 a month, which is what the lender will say you can afford in monthly payments. According to the mortgage amortization tables, at an interest rate of 10 percent, you could afford a mortgage of $200,000. Add on your down-payment and voila, you've got the amount of house you can afford.
The amount you can afford to spend each month will also depend on whether you have other debts such as a car loan, credit card balances, a student loan or alimony and child support payments (Yes, these are considered debts.)
The amount you spend on items such as clothing, transportation, food, entertainment would also have to be considered. Add up how much you spend, except for housing, and deduct the total from your monthly take-home pay.
The safest way to find out exactly how much you can afford to spend and what your payments will be is to get pre-approved for a mortgage. Most mortgage pre-approvals offer an interest rate guarantee for anywhere from 30 to 90 days. With interest rates on the rise, this is a very good thing. But to get the guarantee, you'll have to close the home and have the mortgage funds disbursed within the guaranteed period. If the period expires, the guarantee is gone.
Another nice side benefit of a pre-approved mortgage is that it makes your offer to purchase that much more attractive to the seller. However, and this is a big HOWEVER, just because you're pre-approved doesn't mean you're guaranteed financing. Lenders can still say “no” if the home you've chosen doesn't meet their lending criteria.
What would you do if your banker then turned around and said, “Sorry, you're not approved”? According to your offer, you must close. Failure to do so would result in foregoing your deposit (and how long did you scrimp and save for that?) and opening yourself to legal action. So you must still make your offer conditional on financing.
The idea of home ownership can be gut wrenching. My girlfriend, Jazz, spent many a night tossing her cookies at the thought of the financial commitment she was making for herself and her young son. But home ownership can also be incredibly satisfying. Standing in the middle of a yet-to-be-furnished living room and yelling, “Yippee, it's mine!” is phenomenally exhilarating. If you do your homework and make sure you're not over-extending yourself, managing the monthly payments should be no more difficult than coming up with rent.