How Much Of My Income Should I Spend On A House?

My new favorite pastime is searching MLS listings for houses. Who needs baseball when you can drool over houses you can’t afford? Or can I?

I’m also reading Automatic Millionaire Homeowner by David Bach (free review copy, will give it away when I’m done). Inside it refers to the FHA guidelines for how much of your income should go towards your house payments. Specifically, lenders use a term called PITI – the sum of your mortgage principal, interest, (property) taxes, and insurance payments. To get an FHA-insured mortgage, your monthly PITI should be between 29% and 41% of your gross monthly income, depending on your other recurring debt such as credit cards or student loans. Let’s take a look at what that means:

Monthly Payment
Annual Gross Income 29% 41%
$50,000 $1,208 $1,708
$75,000 $1,813 $2,563
$100,000 $2,417 $3,417
$150,000 $3,625 $5,125

Of course, the resulting loan amount you can get using these amounts depends on the mortgage rate you get. Also, it should be noted that these FHA numbers are pretty generous. Instead of the 29/41 numbers, conventional (non-FHA) mortgages may have lender ratios of around 28/36.

We have no student loans, car loans, or credit card debt (at least by the time I apply for mortgages), and my first reaction at looking at 41% of gross income that it is a pretty hefty amount. Should I really pay that much?

But then my second reaction is even with that big ratio, we can still barely afford anything! Therefore, maybe these high ratios could work in certain areas where housing is simply a huge chunk of living expenses. I mean even now, more than half our monthly expenditures go towards rent. Food and utility expenses don’t vary nearly as much across the country as housing prices.

What do you think? For the homeowners out there, what’s your PITI/income ratio? (Added: location would be helpful too)

Comments

  1. sigh. can’t afford any of those ratios.

  2. bigmouth says:

    I believe our mortgage payment plus insurance, property is about 36% of our total income. We put down a large downpayment (about 26% of the house selling price). I think with utility bills and other house maintanence cost, our expense on the house is going to be half of our income if not more. This is OK as we are accumulating equity pretty fast and much of the property tax can be count as tax deductions.

  3. What are your thoughts on purchasing foreclosure homes? It seems like you can get some discounts off the market value this way. Any recommendations on books to read or websites to visit would be great. Thanks.

  4. W Watkins says:

    I live in metro Atlanta and mine is 17%. I do max out my 401k but have a difficult time saving much money beyond that. (Question to myself: Where is my money going?) How on earth do people live after paying 41% of gross? After 20% for 401k, health insurance, taxes, etc., not to mention utilities, I don’t see how it can be done.

  5. Brandon says:

    I just bought a house with the significant other and our PITI is approximately 22% of our gross. It doesn’t seem like a lot when you look at it that way, but after you take out income taxes, 401(k), Roth, etc., it is still a lot. As a point of reference, we live in Ohio so housing costs aren’t exorbitant.

  6. abaliga says:

    Start with a small condo/townhome in a easy to sell area which is affordable, build some equity, see how a house really affects your lifestyle, then move to a bigger single family house when you are comfortable.

  7. My PITI is 25% gross. Not bad, but why would you determine what you could afford based on your gross pay when that’s not what you bring home to pay bills? If you consider what I bring home, my PITI is more like 40%. Waaay too high! Then again, I live in the DC suburbs.

  8. You live very conservatively. You’ve got a lot of money in savings by most standards, no Credit Debt, no car loans, etc.

    I think you above all people could ‘handle’ the 41% ratio.

    I made the leap a year ago for a pricey house. Since then our income has increase quite a bit. We still live very conseratively in every other area of our lives. I don’t look back for one moment and love the house!

    Something else to consider: If you buy a bigger house you’re less likely to upgrade in 5 years. So you won’t get hit with the huge cost of buying/selling a home. You might actually come out a head.

    - Bryan

  9. My PITI/Income ratio is 28%, and I’d like that to be lower. Remember that if you spend as much as humanly possible each month on your mortgage, you’re never going to be able to afford a family. I doubt either of you are going to want kids if you just finish paying off your mortgage when you’re 55.

    The best advice I can give is to buy a house that you can afford and then some. That way if oil prices go up (like that would ever happen!) you’re not bankrupted when your winter utility bills quadruple.

    P.S. I thought you guys weren’t going to be tied down geographically. Did that change?

  10. This 29 to 41% requirement is very hard for people living in big cities where the price of houses are skyhigh.

    For example, someone living in Boston area, with an annual income of 75k, can only pay 1.7k each month for the house? For that ammount of money, he or she will never get a house, not even a condo within 15 mi radius from the center of the city.

  11. We’re around 33% and living very comfortably. There are never any concerns with having money to go out to eat or for regular entertainment expenses.

  12. We (me and my wife) just made an offer yesterday and it got accepted. So it looks like we just became first time home owners. Our PITI will be a very low 15-16% of our gross monthly income. We went so low for 3 reasons:

    1. We only spent 2/3 of a year saving up a down payment before buying so we couldn’t afford a house more in line with our gross montly income and put down the amount we wanted (20%).
    2. We don’t have any kids yet so we don’t need a very large house.
    3. We’re not confident the housing market will continue to appreciate as it has been.
    4. Our low PITI is deceptive because, although we don’t have any credit card debt or car loans, we have very large combined student loans (90k).

    Basically we wanted to do it because we’re tired of renting. I look at this way. The worst case scenario that could reasonably happen is that the house will not appreciate at all and we will have to move again soon. The losses column there would be the closing costs (that we’re paying for buying this and the future closing costs we’d have to pay when we moved), the agent’s commision and the property taxes we payed while we lived in the house (less all the tax breaks that you get for owning a home). The gains would be the equity we built in the home, any appreciation of the home’s value and, most importantly, all the money we didn’t spend on rent (you gotta live somewhere). In this case I think even if we only live there 2 years and the house doesn’t go up in value, we’ll break even. That’s really why we did it.

    We live by Philadelphia so it isn’t a super-hot market. If I lived in a super-hot market I’d be more worried about actual decreases in the value of the house, but I guess if you live there you probably still have the potential for tremendous growth. It’s just riskier.

  13. I’m shopping for a home which has a monthly payment of 28% of income.

    Don’t forget you also need to pay real estate tax and insurance (and/or condo fee)…

    Like everything else, you only buy things you can afford…

  14. I think 29% is to much. I like Dave Ramsey’s suggesting of keeping your PITI at 25% or under with a 15 year mortgage. My ratio is 26%, and I think that is high. I’d like to keep it lower because I’d rather place my money into better investments than my home and if I have more money going to my home(which is a mediocre investment) I don’t have that money to place in better investments.

  15. Ours is about 26.5% BUT we live in a very high tax state (NY) so our monthly expenditures are higher for gas, utils, etc. We also have student loan debt and several thousand in cc debt (all at 0% of course) so I think if you are aiming for a number; the 29% would leave you in a comfortable zone to cover your monthly expenses and ave plenty left over for that FUN Money account.

  16. First of all – take a step back and CONGRATULATE yourself on a job well done! You’re what? 26? 27? And, you’re ready to buy a house! That’s amazing. Good job, man.

    Second – let me ask you this question: is this the house you’re going to live in for a while? Or, do you anticipate moving in 3-5 years? If this is a long-term purchase, I’d have it be less than 28%, that way, you can pay off the house sooner. If less than 3-5 years, then you could go a little higher since you’re not trying to pay OFF the house, you’re happy to keep making payments.

    That’s my .02 cents.

  17. Our PITI is 29% of my income (not including wife who won’t work after another year) Traditional 30-year first at 5.5% (80% of home value) with a 30-year balloon second (15% of value) at 6.875%. We live in Texas so there isn’t an income tax, but our property tax is about 2.5% of the home value, mortgage interest is about 5.4% of value (not principal), insurance is only about .3-.4% of value. Therefore our cost of living in the home is about 8.3% of the home value each year. I like using these numbers to get a better idea of what the rent equivalent cost is. You should also include the expected maintenance costs and tax deductions that exceed standard deduction.

  18. Michael says:

    My advice is to try to stay on the low end, perhaps 30% as an upper maximum. Do not forget that houses are different than apartments in that YOU must maintain them above and beyond your mortgage payments.

    You will need large sums of money to maintain your house and to make necessary improvements. I believe the number I have heard is about 10% of the home’s value per year in maintenance and improvement costs. Is this number right? This adds up… We’ve spent more than that this last year due to some improvements and carpet replacement. Some of this may depend on the age of the home. I’d advice pricing a few improvements you would like to make to get your bearings.

    Nothing is worse than not being able to keep up your home from year to year.

    Unfortunately in some markets, this may mean you do not yet have enough income to afford a home.

    Also, calculating what you can afford with gross income is misleading. I know that is what the banks use to come up with their numbers, but your the one who needs to pay the bill. We used our rent payment as the number we could afford (we lived in CA at the time), but we forgot about the maintenance costs. So now we are house poor.

  19. Mine is 33% and I am struggling. And I have no other debt. Must be spending too much on other stuff.

  20. Guess the question is how house poor do you really want to be. There are a lot of expenses that come into play when you buy a house that you need to take into account. Property taxes. Higher homeowner’s insurance for one. New furniture to fill that house. Redecorating, etc. Higher heating and cooling bills. Maintenance costs for lawn (or having to buy a new lawnmover, rakes, etc). Will you need a new car since you are now living farther from work (assumption since cheaper houses are generally further out). Maybe more spent on gas if you are now further out. Maybe higher car insurance since you are putting more miles on the car(s).
    There are a lot of other expenses that just the house. A house is a money pit.

  21. Wow. 41%?! My wife and I are at 22.65%. I guess that means I need a bigger house?! Oh wait, student loans…

  22. Our ratio is about 33%, however that percentage includes a maintenance “fund”, which goes beyond the PITI ratio, but I think it’s important to include this incase you need a new roof, water heater, etc.

    All I can suggest is that no one knows how much you can afford better than you! I had a lender tell me I could afford a half million dollar house based on my income and credit score. However when he told me what the payment would be on that half million, I knew there was no way I could afford that AND be able to do things like eat out once a month…

    -Grant
    TheCornerOfficeBlog.com

  23. When we were going through the approval process, the mortgage broker said that for people with credit scores as high as our, they could go as high as a back-end ratio (total debt service, not just mortgage) of as high as 51%. And that’s talking about your pre-tax income, so it’s hard for me to imagine being able to do trivial little things like eat after you subtract income tax, health insurance, and 51% for debt service.

  24. I have a few issues with the rates that are quoted, especially b/c they are based on gross income and not what is actually available to you. Using these figures, my PITI is only 20.5, and outside of about 6% 401k contributions for myself and the wife, it is a struggle to save two or three hundred a month (and it’s not like we live an extravagant lifestyle!). These rates are set high by the mortgage industry because in the worst case scenario, the debt is backed by an asset and any loss on their side is minimized. It doesn’t seem to me that they have the consumer in mind at all when they set these unrealistic expectations. By the way, we also have NO unsecured or revolving debt, but do have a small student loan payment and two $300 car payments.

  25. Our current PITI is 9.6%. This is a great situation to be in with two small children. There are several things that have gotten us in this position. First, we have lived in this house for 10 years. I bought this house on my own when I was single. At the time the PITI was 26%. I managed this by being able to put 20% down. Now that we are married and both our incomes have risen over the past 10 years we have reached a PITI of 9.6%. That allows us the comfortable situation of being able to cover our living expenses if one of us loses a job, like I did two years ago. It also makes it so we can save for out retirement (we are 35 and 43) and save for college for our two kids (3 and 9 months).

    Be careful with these ratios. When I lost my job our ratio with only my husband’s income was only 25%. We did not have any other loan payments but still had to drastically cut back retirement saving and eliminate college savings. At the time we had one child and another one the way. It was a bit scary. We were very thankful that we did not have car payments, student loans, or credit card debt! At the time my husband’s job was not that stabile and we were afraid of having to pay for cobra medical benefits. That would have been $1000 a month! Medical benefits are largely why we keep to jobs.

    Those high ratios seem to count on the fact that your income will rise over time and your payments won’t rise much if you have a fixed rate (just taxes and insurance increases). It would be tough to have a PITI of 40% for many years. I think it may be impossible with kids.

  26. samerwriter says:

    Our PITI/income is about 7%, and I can’t wait to see it become 0%. We intentionally bought (well, built) much less house than lenders said we could “afford”, and we have never regretted it.

    I’m always astounded at the ratios that the lenders allow. I can see for a low income person, a 30% – 40% ratio might be necessary, but way too many higher income people use these same ratios to justify million dollar homes. I have friends who trade up to bigger houses as they earn more simply because the banks say then can afford it.

    Also, as another commenter pointed out, the monthly payment is just the beginning of house expenses. For the first couple years, we pretty much spent our payment over again on various sundry “things”; lawnmower, pressure washer, furniture, etc…

  27. My current rent is less than 12% of my gross income, and the condo I’m buying will probably be about 25% of my gross income (up front, not accounting for tax breaks.) Even that amount kind of scares me! I think a lot of NYers spend a much larger percentage of their income on housing, and I just don’t know how they manage it.

  28. My monthly PITI is about 3300. My gross income is 8k, so my ratio is just over 41%. I do live in California, about 15 minutes from the beach, in one of the least affordable housing markets in the Country.

    I had to do a LOT of creative financing and sacrifice to get the house, but in the end, I have the house, more than 20% of equity (no PMI), and a fixed 30 year loan. And just so you know, it is basically one of the cheapest 3 bedroom house in my town. I couldn’t afford much else.

  29. mortgage payment(p+i) is 20% of my gross monthly income , mortgage + prop taxes(p+i+t) pushes that up to 25% of monthly income…this is after 3 years of paying down of mortgage by over $200K to get down to a non-jumbo sized mortgage.

  30. My fianc?e and I bought our first house last September, and our PITI/income ratio is 18%. We are fortunate to have well paying jobs live in a relatively inexpensive party of the country.

    Call me conservative, but there is NO WAY I would willingly put myself in the 41% situation if at all possible (maybe it’s not possible in expensive parts of the country…). Spending nearly half of my gross income on housing (perhaps more than half of my income after considering taxes) seems too risky to me. I think there are many more things to consider beyond just PITI and gross income.

    Being a first time homeowner, I think many folks underestimate the cost of home maintenance & repair. Of course there are the never ending trips to Home Depot or Lowes (which are controllable), but then there are many other unavoidable costs: A/C maintenance, termite treatment (if necessary), appliances, and the list goes on. You need to consider large future expenses (roof, A/C, appliances) and hopefully start setting some funds aside to offset those large future costs. This is especially the case with older homes. Last there are unexpected costs. Expect the unexpected. We were just hit by a hail storm and incurred $1500 cost to satisfy our insurance deductible to have our roof replaced. Fortunately, we had prepared for this.

    Each and every person’s situation is unique. Maybe if someone is totally debt free and has a large income then 41% would be OK, but that might not be OK for someone with some debt and a lower income. In any case, in my opinion, having as low a PITI/income ratio as possible only makes it easier to achieve other financial goals (e.g. fully funding tax advantaged accounts, saving for children’s education, paying off debt, etc).

    I guess what I’m trying to say is make sure you consider the “other” costs as part of the “true cost” of home ownership, and not just PITI. Here are two articles that I found helpful when I was getting serious about my own first home purchase:

    http://premium.money.cnn.com/pr/subs/magazine_archive/2004/01/MTK-01.html
    http://www.askthebuilder.com/472_Save_for_a_Rainy_Day.shtml

  31. NoHouse says:

    bigmouth: if 50% of your income (pre tax) goes to the house, How much do you have left over after paying income taxes etc. Do you put money in 401Ks or IRAs.

  32. I’m in the same boat as you right now: absolutely no debt but living in an area where housing prices are insane. Banks seem to have no problem approving us for loans with monthly payments up to 60% of our income. In the end, our PITI will probably be between 40% and 45% of our income, but we’ll be able to afford it without trouble while still living comfortably and saving for retirement. It takes a disciplined mind and budget to be able to afford such high housing costs, but plenty of people less financially astute than either of us do it all the time.

  33. I personally think that Bach’s recommendation to use those amounts as guidelines for the entire country is crazy. They don’t apply to North Carolina – I can’t imagine using 41% of my gross income to pay PITI.

    My current house is about 11%. My first house at the time I purchased it was roughly 23%. At the time 23% seemed like a stretch while still trying to reach my long term financial goals. I know that such a disconnect with the west coast and certain areas.

  34. We are at 14%

    We could have easily purchased a house that would have made that figure 30% or more but we chose a reasonably comfortable house with reasonable payments.

    IMHO, banks are marketing to consumers just like any other company. They want you to buy as much as you can, even if it’s unhealthy for you.

    Wes

  35. 14.7% in the suburbs of SW Ohio.

  36. I think your payment should be no more than 25% of your NET income. The only reason why lenders base it off of your gross is so they can lead you more. A person never gets GROSS income, so why even use it.

    The other 75% of your NET income then gets chewed up on insurance, food, cars, maintenance and upkeep, and plus having a little left over for savings.

  37. Wow, thought of food for thought during lunch. (pun not intended). Thanks for all the comments. And thanks for those who included geographic area, I should have asked for that as it helps for reference.

    We are geographic mobile, but we would really like to move next to family, which is really expensive. Think San Francisco Bay Area.

  38. Jack,

    Philly market is/will be HOT according to Suze Orman. BUY BUY BUY.

    Suze Orman nor I warrant that the information above will continue to be true in the near future.

  39. I am 29 and single, living in the midwest (South Dakota).
    My PITI is at 20%. There’s no doubt that comparing ratios/housing in different markets is truly apples and oranges.

  40. Anonymous says:

    Dont forget, besides PITI, there’s other semi-fixed expenses (ie. if you buy condo, there’s the monthly condo fees; utilities; flood insurance if your’ in flood area. I’m in your situation tooo. I look at properties, and contemplate… should i, or shouldnt i. There are places i can afford, but, affording them would put 50% of my gross into housing expenses and all of my savings gone. That is too much!!! And that does not include utilities, car insur., gas, food, etc.

    The worse part: the area where i live; most people spend between 32-45% of their gross for housing costs (whether renting or owning, but includes all utilities) in the surrouding areas of Boston.

  41. For the lazy folk, could you convert those mortgages to a housing price in a “nominal” situation? Say a 30 year fixed 6.5%… that’s reasonable these days, right?

    I know you’ve run those calculations already, Jonathan! =)

    (apologies if its buried in the comments already)

  42. For me it’s 22%, married and in Dallas area, age 29.

  43. I have been looking at buying for a few months now, but I have a nagging voice in my head telling me to wait 6-12 months. The first wave of ARMs and I/Os are about to reset, and I think we could be in a for a serious pricing correction here very shortly…I’d hate to buy now and miss out on that.

  44. 41%? This will “kill” you. Besides your house, you will want to max out your 401k’s and IRAs, don’t you? For the married couple, each of you can contribute $15000 to 401k and $4000 to IRA (year 2005′s limits and assuming both are under 50). This is $38000 a year. If you make $100k a year, you will put $41000 in your house and $38000 in your retirement plans. Now how much is left for anything else? $21000/year or $1750/month before taxes. Also, keep in mind that maintaining a house can be quite expensive. Sometimes we feel that it looks like a black hole even though we enjoy owning a house.

  45. Miller, I’m not sure if this is what your asking, but here goes:

    I have a 30 year fixed at 6.125%.
    Loan amount is 415k.
    Appraised value 550k+.
    Payment is 2525(p+i)
    Taxes is 500(t)
    Insurance is 75(i) – I may be off on this one.

    So piti is about 3100/mo.

    I live on the west coast, and it’s very difficult to find a 3 bedroom home in my town for under 600k now.

    My percent of gross is about 41%, but I didn’t have much choice. I have a family of 6 I’m supporting, and it’s was getting difficult finding homes big enough who would rent to me. I know that descriminating because you have kids is illegal, but mysteriously the rental homes went to someone else.

    So, I went out and bought a house three years ago with a friend. He owned 1/3rds and lived in one bedroom, and I owned 2/3rds and my family of six lived in the other two rooms. The seven of us endured for 2.5 years in a small 1000 sqaure foot home before I was able to refinance and buy him out. This is what it takes to buy a home in a very “unaffordable” city. But, it can be done.

    BTW, the house appreciated nicely during those years, and my friend made out very well when I bought him out. At the same time, I would have never been able to buy this house, unless I did this, so it worked out very well for me.

    Some say, 41%, how can you do it? Well, we are living well with no car payments, and pay off credit cards in full each month. I do not contribute to a 401k plan because my place of employment has one of those rare “Defined Benefits Plan”, which I’m happy with. I do contribute 8k/year to a Roth IRA for my wife and I.

    Remember, those who understand interest earn it, those who don’t, pay it.

    I hate paying interest, even on the house payment, but, I do need a place to live.

  46. Bigmouth says:

    NoHouse:
    The 50% expense ratio includes the following:
    1- Mortgage payment (including homeowner insurance)
    2- Extra payment each month towards principal
    3- Texas property tax (2.7% nearly half of the mortgage payment!)
    4- Utility, HOA Fee, and Other budgeted maintanance cost

    After those, I do spend nearly 12.5% of our net income on my wife’s health insurance (I think she’s getting an full time offer soon.)

    That leaves me some money for anything else. As I mentioned before in my previous posts, we spend very little on food/gas/leisure. And yet, we do cook once a meal, eat out about once a week (though always use Entertainment coupon book for half off). Our living expense in these area probably constitute about 10% of our net income. Then we still have about 25% left for savings and something else.

    Unfortunately, my company doesn’t offer 401K. All we have right now is a traditional IRA and we are setting up Ruth IRA. Retirement portfolio is my next project when I accumulate more cash reserves and make some good profit on this house.

    I personally would secure a good house (not a new, comfortable one, per se, but a good investment property in a great, established neightborhood) before doing anything else including retirement accounts. It’s no brainer to me. I am not just buying a place to live, I am buying a piece of real estate that appriciate on average 4-6% a year in the last 20 years. Moreover, I am doing some remodellings on this house. Hopefully, my hard work, creativity and extra money will resolve in a even bigger return. How many of you even realized any 5-6% gain on your 401ks and IRAs in the last 6 months?

  47. Probably the best financial desision I ever made was buying my home. Its 5 years later and its doubled in recent appraisals/sales.

    We’re still happy with it and its value and low loan, $11% of our gross (about $900 a month), make every other part of our lives a little easier.

    You may regret not buying a house earlier. I only put 5% down but I’m now clear of PMI after a refinance to lock in a low fixed rate.

  48. My situation is a bit complicated. My PITI is 37% based on my salary alone (wife is stay at home). However, most of my income is in the form of bonus, which varies from year to year. Based on average total compensation (which is high by any measure) PITI is 10%. Plus, since we rent part of our townhouse out the PITI is only 7% after accounting for rental income. Whew, that sounds pretty good on paper. However, we live in NYC where housing prices are off the charts, and our mortgage is embarrassingly huge. Also, maintaining an old (circa 1890) home requires a lot of expensive maintenance.

    Still, given our relaitively high income, we are able to max 401K, max IRA’s, and save a substantial part of bonuses for retirement. While we are high NW on paper, owing to the equity in the house, saving enough for a retirement in the lifestyle we desire is still quite challenging. For the next few years, we will need to pack away a considerable part of our income (about 30% of our take-home), which involves some difficult self-restraint. Also, keeping my fingers crossed that the economy holds up over the next 5 years – a critical savings period for us to meet our objectives.

    I have just one real gripe about savings: For single-income married people, they should allow you to contribute twice as much to your 401K, after all you are trying to save for two.

  49. Also, I forgot to answer the question: What do we think about the 41% PITI ratio. As previously stated, on salary alone we are at 36%. We carry no other personal debt. As also stated, we live in NYC, which next to CA has got to be the most expensive place to live on this continent.

    I am here to tell you that we would be in big trouble if we had to live with 36% salary only ratio, (excluding bonus and rental income). Things would be unbearably tight. We could probably squeak by for awhile, but with no savings for a rosy retirement, no eating out, no vacations, etc. And I might also point out that we don’t even own a car which is usually a big part of the average persons household budget. IMO, anything greater than say 25% would equate to being house poor, unless you’re a hermit.

    I have come to realize that no matter how much your house is worth, you can’t eat your house. Meaning the equity might be nice someday when you’re 75 and ready to sell and move to a low-maintenance condo, but until you can extract that equity, you will need savings. If you buy too much house, you may build up equity over time, but you’ll never be able to properly save, and you certainly won’t be able to pay it off early, which I think is a critical tipping point for retirement. You can’t downshift when you’ve got a big mortgage to feed. To that end, my plan is that once I reach a certain target level of savings/investment, to then redirect dollars to mortgage reduction.

  50. 14% (mortgage, taxes, insurance) of my gross outside of Cincinnati. My wife stays home so I don’t want all that pressure of all the bills should something happen. I would recommend keeping this low. Enjoy the other things in life and leave money to invest. The PRESSURE of more than 25% is not worth it!! Can you say Rat Race?

  51. Reading some of the other comments reminded me that when we were shopping for a mortgage, I was told that at higher income levels, the ratios are considerably relaxed under the logic that:

    1) More of your income is discretionary, so you can devote more of it to housing;

    2) At higher income levels (and especially in high tax places like NYC), the tax breaks are more meaningful.

    3) Presumably, high income equals greater earnings stability, and greater ability to absorb financial risks.

    I have to admit that I do believe these rationalizations to be somewhat true. If I could take a poll, I’m sure a lot of my friends and acquaintances would report PITI ratios up there in the 40% range, most especially if they are 1st time buyers in the NYC market. It’s just about the only way for somebody to break into this market right now. But, I still don’t think it’s the most prudent move, unless you’re counting on an inheritance to fund your retirement. I am fortunate to have made my 1st purchase over 10 years ago, and have benefited from the run up in equity, providing the capital to trade up over time.

  52. Jonathan,
    Any chance I can borrow that book when you’re done?
    Thanks!
    -Sean

  53. My wife and I are doing 14% in Boise, ID at 25. No college loans, but much more debt in credit cards and car loans than I would prefer. Get rid of those expenses and we could do close to 30% without making any additional sacrifices, but at this point in my life I can’t imagine being in that deep — let alone at 41%!

  54. 2 Engineers says:

    We live in central Ohio. I estimated that our PITI is about 14%, though that is a somewhat high % due to not counting our overtime pay. We put down 15%, required by the lender. We still save quite a lot, max out our Roth IRA’s, and 401k’s at 15%.

  55. Susannah says:

    When my husband and I bought our house, our PITI/income was 17%. We planned it so that if either one of us lost our job or decided to change careers, that we could afford the house on one income long-term. We are near the Dallas area.

  56. My advice: Don’t spend more than 30%, in fact, try and shoot for 25%. Houses have a LOT of additional costs beyond the mortgage, costs that eat into the return homes offer as investments. (I.e. Just because you net $40k after the sale over your downpayment + equity payments, doesn’t mean you made that in profit when considering all of your costs).

    If you make a fair mathematical comparison, factoring in investment returns, the impact on your liquidity (Which is then money you can’t invest) and other factors, you’ll find that going above 30% is not a good idea. In fact, the best way to look at the housing cost is as follows:

    Add the portion of your interest & property taxes that aren’t deductible. (72% of each if you’re in the 28% tax bracket). Then factor in insurance, maintenance (1-5% of your home’s value) consider mowing the lawn, paint, etc. Anticipate future expenses like washing machines, a new roof, furnaces, etc, etc.

    What % of those costs does the home add up to be?

    Now consider that you won’t see the tax deduction until you file your taxes, so there is a liquidity impact. Also anticipate that the cash you’re putting into building equity is non-accessible, unless you take out a loan and PAY to access your own money.

    My advice, be conservative on houses – if the market is slow you won’t lose out. If it’s fast, you still win. I’d rather hedge my bets on not losing than spend a ton of money on a house in hopes of crazy appreciation.

    FWIW – I live in a Suburb of Seattle where you can’t find much of anything for less than $450k. BUT, I can rent a very nice apartment for $1k/month – less than the non-deductible interest payment on the typical home in the area.

    I can move up and rent a house and still pay less in rent than the guy next door is paying in non-deductible interest.

    Meanwhile, I have the delta between interest and a mortgage generating very nice dividends and appreciation in the stock market/CDs/Bonds.

    Easy choice for me.

    -Mark

  57. mhesidence says:

    14%, but I’ve been in the same house for 10+ years. However still barely squeeking by because of 3 very young kids (day care for 3 costs more than the mortage payment) and mortgage payment on second home (wife insisted on taking care of her mother). So its more like a 40% piti if you count daycare and second home.

    I recommend a low piti, OTHO get a house big enough to support family additions you might have kids/older parents so you don’t have to move.

  58. Mark,

    Clearly, as in your case, owning is not the right choice for everyone. However, your analysis should also point out that owning is a partial hedge against housing inflation. I’m a landlord and owner. Although some aspects of owning are subject to inflation (taxes, insurance, etc.), if you have a fixed rate mortgage then at least this is carved in stone (until you refi). If you have no mortgage at all, or at least think you’ll live to see it paid off, then all the better. Rent, on the other hand, will generally keep going up. And as a renter, there is an opportunity cost to sitting out home ownership, as many New Yorkers have painfully witnessed as they waited on the sidelines trying to time the market.

    Lastly, if there is one universal contributor to the networth of the average person, it is home ownership. I think it is partly due to the forced saving aspect of a mortgage payment (i.e. principal is reduced with each payment). Most people are not disiplined enough to bank the differential between renting and owning. How many people do you know who have financed educations for their children, start-up capital for their business, and other valuable “investments” through the equity in their home. Where else is the average person going to get access to cheap capital? Unfortunately, people finance a lot of dumb stuff too with their equity, which is, of course their perogative. And, by the way, while your analysis mentions tax ded’s, it ignores the hefty capital gains exclusion if and when you decide to sell.

    Now, I’ll be the first to admit that home ownership is expensive and often a pain in the a**. Sometimes I look at the money and effort I’ve poured in my home and shake my head – it does seem like a money pit sometimes. On the other hand, since my 1st purchase of a co-op apt over 10 years ago with $24K down, to my more recent acquisition of a two-family townhouse, I have booked over $1 million in capital gains on r.e. And I currently earn over $20K per year in after-tax rental income, which I expect will double or triple by the time I retire. I could lease out the entire building for $100K per year right now if need be, which would support a retirement in a less expensive part of the country. Not to say this level of or type of investment is possible for the vast majority of folks, but to illustrate there are many situations where ownership makes total sense from an investment POV, despite the drawbacks. And I should point out that when factoring in my rental income and tax breaks, my monthly cost of housing is about equivalent to renting a 2-3BR apt in my area, yet I get to live in my 5BR apt renovated to much higher standards than the typical rental and benefit from the appreciation in value.

    All in all, we could debate the merits or lack thereof of home ownership all day long. Ultimately, it comes down to the individual situation and long-term financial goals.

  59. Alan Wild says:

    18% here in Houston where property is cheap. I just can’t see some of these high numbers unless you live on the east or west coast where housing markets are rediculous.

    My wife is presently racking up student loans, but we aren’t paying on them and I didn’t use her future income either in the PITI calculation.

  60. stretched to the limit says:

    We live in the SF Bay Area. We are stretching our limit with PITI way above 41%. (How? We bought our house and got our loan before one of us quit our job in effort to pursue a long term goal..) Our budget is very tight, and use our savings to support a portion of monthly expense as we go through the rough time. The good thing is…due to the exuberant amount of inerest and property tax we are paying, we are paying hardly any federal and state tax…so essentially, we gave ourselves “pay raise.”

    I don’t recommend this to anyone. As someone else mentioned, stretching to the limit means that we have to put off having kids for a while.

  61. Saniyya says:

    I have a condo and my PITI is right at 29% gross. The only other debt I have is a student loan. With the 29% I?m still able to save approximately $300 – $400 monthly and participate in 401k (up to the company match). I wish my PITI was lower though (so I could invest that money elsewhere). BTW, I reside in Las Vegas.

  62. We are buying a house with 30% down and our PITI ratio will be 17%. We both max out our 401k’s and would like to max out Roth’s as well, but I’d rather use the money to pay off the house sooner (our goal is to pay off the 20-year mortgae in 8 years by making double mortgage payments). I’d rather have the satisfaction of knowing that the house we’re living in is OURS, not the bank’s. To me, that is more valuable than leveraging surplus income in other investments. New Hampshire, Age 25, Target retirement 45.

  63. ProfessorA says:

    Forget about the ratios! The PITI has been recently modified to allow for more generous lending / creative financing. Just stick to your plan. Live modestly! Buy a house that you can confortably furnish, maintain, heat and cool. My advice, if you are a 2 income family, base your mortgage payment and what you can afford on only 1 income (the lower one)!

  64. ProfessorA says:

    Philadelphia market Hot? I’m afraid not. The recent rise in the Philly market is an anomaly. Speculators with no interest in living in the city are flipping properties with cheap money. When interest rates rise, you will see prices begin to level off again. Historically prices in Philly remain flat and keep up with inflation at best.

  65. I live in FL, and my rent to gross income ratio is 22%.
    The banks will give you mortgage based on your income, but that doesn’t include insurance, taxes, HOA fees etc. When I was looking aroun to buy (before I realized FL is in a bubble), the banks would just give me the PI of the PITI value. In FL, avg prop tax would come out to 7k a year for people buying now, insurane has skyrocketed thanks to last 2 hurriane seasons, and almost every house has about 100-200/month HOA fees. So on top of the mortgage payment, you’d be paying another 12k a year (1k a month) on this, not even including any house maintenance fees. So you have to add this to your monthly housing costs.

    I calculated that I’m saving about 1500/month because I rent the house I live in. I basically get subsidized by my landlord, who thinks that the appreciation would be greater than 1500/month. Now that the houses in my county actually fell since last June, I guess I made the smarter decision.

  66. jessilizzi says:

    These ratios make absolutely no sense where I live. Here the median family income is $65,000/year but the average single family home is $650,000. Hmmm… you do the math. We make just under $120,000/hear and still can’t afford a home (I’ve done the math & we could afford a $400,000 home. . . but to find a 4bedroom home for that price on Oahu is impossible!!!). I guess if we took our kids out of private school we could afford more but then we’re sacrificing their education (the public school systems here leave much to be desired).

  67. Is this wise?
    new house–1 yr warranty on major things
    Living in Colorado near Ft Collins and make around 4k/mo(gross)
    piti=1600(w/o roommate) (40%)
    pit=1100(w/roommate)(27.5%)
    no other debt
    single, 25
    medical sales
    haven’t closed yet on the house
    probably live there 3 yrs or so
    it is wise to buy?

  68. Ok explain to me this, assuming this person has no debt. If a person makes $60,000 a year last year and pays $1500/ month in rent and can still live comfortably then why wouldn’t the following scenario make sense. Same person gets a $40,000 raise. Person now pays $4,000 / month for a mortgage.

    In the first part of the scenario person has $42,000 of free cash before tax. However person is not enjoying a Federal Tax Deduction.

    In second part person is spending $48,000 (almost 50%) on mortgage, leaving them with $52,000 in free cash to still live comfortably. In addition the $4,000 / month will get a nice tax deduction especially in the earlier years of the mortgage when the payor is paying mostly interest. With the tax deduction the after tax federal cost of the $4,000 loan is lets say aproximately $2,800. In this scenario That’s 48% of income being spent on mortgage and the person still has an extra $10,000 pre tax more than in the renting situation to use for house costs.

    Please explain the flaw in my thinking?

  69. I don’t get it. What’s wrong with buying something you can pay off in a few years. I don’t think the tax deductions are that great and why pay pay double for a house after 30 years of interest when you could buy something low and make triple payment and own it outright after 5 years.

  70. There is nothing wrong either approach, as financial sense never, ever accounts for quality of life. That is, if you buy the biggest house you can afford to capitalize on the equity one day, you will be loosing your younger years slaving away every month to meet your mortgage obligations (and large sums of additional money towards property taxes, which is lost money.) If you don’t die before retirement, you should have everything paid off and then you can enjoy life in your older years.

    Or, buy a moderately sized house, have extra cash for nice vacations, toys, etc. (all the things that loose value as soon as you purchase them) and enjoy life a little. Also max out your 401K while you’re at it. And then you will have the security that if the spouse looses his/her job, that the mortgage can be paid every month. You should also have sufficient funds for retirement PLUS a fully paid home. That sounds reasonable, doesn’t it?

    So it all depends on your philosophy, goals and the level of risk that you are willing to endure. Can you balance finacial sense and quality of life, or do you take a textbook approach towards life and go extreme one way or the other? You choose.

    As a side comment, too many people have gambled their #1 inventment (a home) on the confidence that they will build equity quickly. Now we have foreclosures and a national bank lending crisis. Your home should be a secure investment, not a bet with the realty market. It can come to bite you in the rear as it has for many.

    My situation is odd and unexpected. My income doubled in one year after a significant job move and I now find myself paying just 9.6% of my monthly gross income towards mortgage, taxes and homeowner’s insurance. It is certainly time to buy a more expensive house in this buyer’s market plagued with short loans and foreclosures.

    I’ll will need to sell my house for cheap, but I will immediately purchase a larger/higher quality house for cheap as well. It is nice to be literally handed someone else’s potential equity at a discount because they underestimated their ability to afford a home.

  71. I’m currently paying about 61% of my take-home, and it’s finally catching up to me. The good news is, I took $10,000 in principal off of a 15 year loan in two years. I’m going to be very happy when I see the refinance numbers, and realize I’ll have a sane house payment. It takes a lot of will power to live like this, beans and rice can be easy on the wallet, but tough on the digestive system. It’ll all be worth it though, and living with 33% should be easy as pie after living at 61% for two years.

  72. This is insane!!! This is exactly the reason why their are soo many foreclosures in this country. People buying houses they cant afford. I earn a very good salary and if I went on this scale of 29%-41% of gross income I would be buying a home with a $18,850-$26,650 monthly payment!!!!!!!! Are you kidding me! I would never do that. The funny thing is the bank would never lend me the money either. Even though I have the salary to back it up. The banks will lend 41% of gross monthly income though to someone making $30,000/yr. Why is this??? I own my on businesses also which I think is alot more stable than someone who could be fired or lose their job at any time without notice. So many people in this country are leaving way beyond their means!!! I pay 10% of my monthly gross income to my mortgage which I put 20% down on when I bought it. I dont think anybody should pay more than that unless they are forced to because they live in a high cost of living area. ( NYC etc. )

  73. Katherine says:

    In the end, you really need to dump standard suggestions and do your own math/budgeting. A house is NOT an asset because you do NOT make money off of it (unless it’s a farm or office-at-home). The best thing to do is to get your house paid off asap: even if the house is a bit small. Banks make a killing: some cheaper houses have monthly interest payments that I could live off of. Then you have an asset, IF you want to move and rent it out. People spend all their lives refinancing and making mortgage payments instead of actually OWNING the bloody house! Some take it a step further and never really OWN their car (I paid 2k cash for my first one as a college student). And ditch the college savings plans: bring up your kids expecting to pay their own way and they’ll learn the best lessons of life (instead of how to dress for a sorority party). Shake of the strings as fast as you can, and you may retire sooner than you thought possible.

  74. farble1670 says:

    this is all flawed. you cannot simply consider percentages.

    at $200k, with a ratio of even .50, the person has over $8,300 level to cover other things in their life. how many of you could make ends meet with $8k left over after housing? my guess is most everyone- unless you have a terrible caviar addiction.

    do the hard math … get out your spreadsheet and start writing down your actual income and expenses. working with percentages isn’t going to give you the answer.

  75. Marc

    If 29% of your monthly income comes out to $18,850 than your yearly income would be $780,000. And for a mortgage payment to be that high you are looking at a loan for about 3 million dollars. But if you are paying 10% than your mortgage payment is $6,500 a month???? That is about 1 million dollar loan over 30 years.

    But I am going to assume that you misread the article and you yearly salary is $65,000 which is about $5400 a month so you can afford a mortgage between $1,566 and $2,214 per month, which is reasonable. But if you are at 10% than your mortgage payment is $540 per month….

  76. this is why so many peopl ehave lost their homes
    the golden ruel was 20 25 40
    20% down – mortgage not to exceed 25% of gross income – totale debt not to exceed 40% of income

    anyone buying into more than that is flat stupid

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