I Want to Buy a New House. How Much Can I Afford?

Create a cash flow plan or budget and get down to details about your spending habits before you speak to a lender. I know this sounds like a chore, but you really can’t afford to skip this step if you want to make an educated buying decision. Buying a home is the largest purchase of your life. Create a working budget or cash flow plan so you can buy a home and not sacrifice your retirement.

Also, every person you come into contact with during the home buying process—from real estate agents to lenders—only gets paid when you buy the home. This is ok. These people are not bad and everyone should be paid for his or her time. However, by definition, they are not 100% objective. You need to know what YOU are comfortable spending each month, not the maximum amount your lender can qualify you for. Getting on a cash flow plan when buying a home is more important now than at any other time in your life.

Your lender will qualify you based on the debts listed on your credit report, not your actual monthly expenses. Your credit report only contains your credit cards, mortgages, auto loans, student loans, signature loans, and any derogatory financial information you may have. This leaves out a lot of information (cash spent, insurance, telephones, cable, electricity and water to name a few). These expenses add up and your lender does not consider them when telling you what you can “afford.”

Take 15 minutes after you create your cash flow plan and find out how much you can put towards a housing payment each month and also save. Also, determine if anything else will go up along with your housing payment (water, heat, electricity, etc), as this might come back to bite you after the purchase when it's too late to back out and you can't save.

When you buy a new home, there will be closing costs and also a down payment. The more you put down, the lower your payment will be. You want to strike a balance between putting money down and also keeping money for reserves. We recommend you have at least three months worth of mortgage payments in reserves after you purchase to cover unexpected emergencies. Expensive emergencies happen to everyone; give yourself the peace of mind knowing that you can draw from an emergency account rather than put these expenses on a credit card. We all know that credit cards rob us of our ability to save.

a. Position yourself for the best rates. It is important that you handle yourself properly. Almost every lender can set his or her own pricing and offer lower interest rates when the buyer negotiates properly (except many of the “order takers” you find in call centers or on websites like LendingTree). Negotiating well can save you thousands of dollars over a just few years of being in your new home.

b. Find out the best programs the lender offers based on your personal situation. With the information you gathered in steps 2 & 3 above, your lender will provide you with the best loan options for you. Note: Lenders will give you much more information than any mortgage calculators, and they will do it for free. You can use calculators, but there isn’t any calculator that takes your whole situation into account. There are four main loan programs: conventional loans, FHA loans, VA loans and sub prime loans. The first two are the best options for most.

We did a study and found that less than five percent of Americans create a financial plan when buying a new home. They make the largest purchase of their life and don’t have any real plan to speak of. As a result they usually end up sacrificing their savings and even their retirement.

Almost all of us find a home that costs slightly more than we want to spend. It’s human nature. However, the mortgage rate market has become very volatile and will continue to be so for years to come. It is possible to honestly and effectively create win-win situations and negotiate a great deal when buying a home. It can save you thousands. Just like anything else, it takes a plan and a few techniques. Most people don’t realize that even one eighth of a percentage point lower in interest rates will save a homeowner thousands of dollars in just the first few years of a mortgage.

Over the years of running mortgage divisions, people would often approach me and say, “I want to buy a new house. How much can I afford?” The answer I gave usually wasn’t what people wanted to hear. Most wanted an answer based on income and assets, which I would provide. But the best answer was only they know how much they should purchase. My financial advice has remained the same over the years, and I believe this directly attributes to the success of our program.

If you are serious about buying a home, don’t rush into it. Create a plan. In today’s market you can buy a great home AND continue to save for retirement. Take advantage and create a plan for your finances before and after you buy. You won’t regret it. There is simply no downside. No one will guard your money like you will.