When you’re house hunting, a critical first step is figuring out how much house you can afford based on your income and finances. How much you can afford to spend on a house depends not only on your earnings, but also a number of other factors like your down payment, credit score and other debt you might have.

Here’s what you need to know about setting a realistic budget based on your income for a new home purchase.

How much house can I afford based on income?

When determining how much house you can afford based on what you earn, it’s best to look at the big picture. The prevailing guideline is the “the 28/36 rule,” which means that your total mortgage payment should, ideally, account for no more than 28 percent of your income, and your total debt payments, mortgage included, should account for no more than 36 percent of your income.

How the 28/36 rule works 

The 28/36 guideline looks at the mortgage payment and your total household debt payments as a percentage of your monthly income. Let’s break this down:

Mortgage payment: 28 percent of income or less

Your mortgage payment includes four parts: principal, interest, taxes and insurance, or PITI. Each part covers a different expense:

  • Principal – Repays the amount you borrowed for your mortgage
  • Interest – The cost of borrowing your mortgage
  • Taxes – The amount that goes to property taxes
  • Insurance – The amount that goes to homeowners insurance

The sum of these four is the amount you’re responsible for paying each month. Using the 28/36 rule, this amount should not be more than 28 percent of your gross monthly income. In mortgage-speak, this is called your “front-end ratio.”

For example, for a borrower with a gross monthly income of $5,000 a month, the monthly mortgage payment should not exceed $1,400, or 28 percent of $5,000.

For budgeting purposes, Bankrate’s mortgage calculator can provide an estimate of your monthly mortgage payment. You’ll need to input the expected mortgage amount, interest rate, estimated property taxes and insurance payment.

Debt payments: 36 percent of income or less

Lenders know you have other debt to pay besides your mortgage payment. In general, they want to see your total household debt — including your mortgage payment and other loan payments — add up to no more than 36 percent of your gross monthly income. This is also known as your “back-end” ratio or debt-to-income (DTI) ratio.

Figuring your DTI ratio isn’t challenging: Simply add up all of your monthly bills, including your housing payment, student loans, car notes and minimum credit card payments. If you pay alimony or child support, include that too. Then, divide the sum by your gross monthly income. You can also use Bankrate’s debt-to-income ratio calculator.

Most lenders look for the DTI ratio to be below 36 percent, but if yours is higher, it doesn’t necessarily mean you won’t be able to get a mortgage. Government-backed loans have their own DTI ratio limits, and some conventional mortgage lenders might approve you, though they’ll charge you more to offset their risk.

In the examples that follow, we use the 28/36 rule to keep Emma’s mortgage payments within a reasonable range based on her earnings.

Say Emma is getting ready to buy a home. Her household income (after taxes) is approximately $6,000 a month, or $72,000 a year. She knows that mortgage interest rates are low (we’ll use 3.19 percent APR for this example), and she’s looking for a 30-year fixed-rate loan.

We’ll use Bankrate’s home affordability calculator to examine three possible scenarios for her.

Example 1

Emma has $10,000 saved for a down payment on a house. Her monthly credit card payments come to $1,000 and her monthly car payment is $200, and she has no other debt obligations.

If we assume $2,000 in annual property taxes and $1,000 for homeowners insurance yearly, her total monthly debts shake out to just about $1,450.

If we go by the 28/36 rule, Emma has $710 available left for a mortgage payment, meaning she can afford a home priced at or around $174,380.

Example 2

A member of Emma’s family gifts her $40,000 for a down payment on a house, added to the $10,000 in her personal savings, bringing her down payment to $50,000. Her monthly expenses still total $1,450, so she still has $710 available each month for a mortgage payment (in keeping with the 28/36 rule).

However, now having a much larger down payment, she can afford to shop for a home priced around $214,380.

Example 3

Emma finishes paying off her car, reducing her monthly debt payments. Now, with her monthly expenses totaling $1,250, she has $910 available each month for a mortgage payment. Combined with the $50,000 down payment, this increases her buying power, and she can now afford a home priced around $260,690.

As you can see, having debt obligations eats into what you can afford, but a bigger down payment can help compensate. If you’re able to lower or even eliminate some of your debt, you’ll have a wider range of homes that are affordable for you based on your income.

How can I afford more house on my current income?

Is your homebuying budget less than you’d hoped? While you can’t snap your fingers and get a raise (here’s some tips on how to ask for one), there are a few things you can do to increase your buying power on your current income.

1. Improve your credit score

Keeping your credit score as high as possible will help you qualify for a lower mortgage interest rate, which in turn will decrease your monthly payments. This will enable you to afford a larger mortgage with the same income. To boost your score, first check your credit report for errors and get any corrected. In the months before applying for a mortgage, keep your credit card utilization low and strive for a perfect on-time bill payment history. Avoid opening up new lines of credit or applying for new loans, too.

2. Increase your down payment

The average homebuyer puts 12 percent down, according to the National Association of Realtors. Putting down at least 20 percent, however, means you’ll avoid the extra expense of mortgage insurance. Consider whether you can save up a bit more to get to that 20 percent, work some side hustles or ask family members for help. The bigger your down payment, the less you’ll need to borrow, and the lower your monthly mortgage payments will be. Bankrate’s down payment calculator illustrates the potential monthly savings that result from putting down a larger upfront sum.

3. Pay down your existing debt

Start making extra payments toward your credit card or other debts as early as you can before you begin your house hunt. The less debt you have, the more mortgage lenders may be comfortable lending you, giving you more spending power.

How much house is too much? 

Guidelines like the 28/36 rule are just that: guidelines. Calculating your DTI ratio helps you understand how mortgage lenders view you as a borrower, and how much you might be qualified to borrow. Armed with this information, you can also set your own homebuying budget based on your income, taking into account your other financial obligations and goals and what you can afford.

You shouldn’t necessarily set your sights on borrowing the maximum amount a lender is willing to approve you for, however. Living below your means, which can include consciously choosing a more modest house, can be a savvy decision. It can be very freeing to leave extra breathing room in your budget, be it for retirement savings, paying off your mortgage faster or whatever other financial goals you may have.

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