It’s entirely possible you can get approved for a higher mortgage than you can actually afford. This happens because lenders only know your income and debts and they don’t know your overall expenses, future goals, or other financial priorities. Consider these 4 things before deciding how much to borrow
1. How Much Debt You Have
From student loans to credit card debt, many people carry different kinds of debt. Depending on the size of your monthly payments, it may be difficult for you to take on the additional expenses you’ll soon incur as a homeowner. If you were hoping to pay off your debt more quickly, taking on too big of a mortgage could easily put a wrench in your plans.
To qualify for a mortgage, it’s recommended that your debt-to-income ratio, or how much you owe relative to your income in debt payments per month including your mortgage, should be under 36%, with less than 28% of that amount going towards your mortgage. But not everyone can afford to pay 36% of their income towards their debt.
Having too much additional debt can also make you more vulnerable in the case of an emergency because your budget is tighter. And it may be a smart idea to take out a smaller mortgage and save an emergency fund just in case your roof springs a leak or you have cracks in your foundation.
2. Other Homeownership Costs
We often think that the only major homeownership expense is our mortgage payments, but that’s just the beginning. Just buying a home can have unexpected costs. The Canada Mortgage and Housing Corp. estimates that things like land transfer taxes, legal fees, and other expenses add up to around 1.5% to 4% of the purchase price. After that, you’ll have to pay for the cost of moving, small renovations like painting, and potentially even new furniture.
As a homeowner, you also have to account for things like property taxes, home insurance, mortgage loan insurance, maintenance and utilities.
A Globe and Mail article estimated that in addition to your mortgage payment, the monthly costs on a $650,000 home could be as much as $885 per month with annual maintenance costs starting at $900 per year, excluding any major issues or renovations. That estimation doesn’t include things like condo maintenance fees which can cost between 50-80 cents per square foot.
If you buy into an older condo building or purchase an older home, make sure to have a contingency fund in place since you might have to pay for a major repair that could cost tens of thousands of dollars. Homeowners should have at least 6 months of their salary saved in an emergency fund to be able to absorb extra costs without having to resort to debt. You might also decide to take out more life or disability insurance in order to cover the costs of your mortgage payments in case something were to happen to you.
All these expenses add up and it’s important to factor them into your calculation so that your budget doesn’t get stretched too thin.
3. Your Current and Future Expenses and Income
Just because a friend, who makes the same salary as you, can afford a mortgage of a particular size doesn’t mean that you can. That’s because everyone uses their money differently. It could be that your friend doesn’t love winter sports or travel as much as you and so they can forgo an annual vacation or lift tickets in order to pay more towards their home every month. Or perhaps, they aren’t planning on having kids in a few years and worrying about the impact that will have on their budget.
When it comes to figuring out whether you can fit the expense of your new home into your budget, it’s important to think about your current expenses and what you expect your future expenses might look like. While it’s sometimes difficult to predict, there are some situations where you’ll have some advanced warning. For example, you may have a car that is getting old and needs replacing in the future or maybe you have aging parents that will need your financial support if they go into a retirement home.
Also, what does your current and future income look like? You could be making a lot of money now, but you may want to change careers or get a job where you might make less to have a better work/life balance. These types of considerations can impact how large of a mortgage you can take out.
4. Your Life Goals
It’s true that a mortgage is a long-term commitment. A typical mortgage repayment period can be 10 to 30 years. For that reason, you should spend some time reflecting on your life goals before your buy a home. Maybe you want to someday start a business or perhaps you are hoping that you or your spouse will be able to stay home with your kids. These types of goals would impact how much you could afford to borrow in the future. Similarly, if saving for your children’s education or retiring early is in your plans, this would also affect how much you could put towards your mortgage every month.
5. Get Help If You Need It
If you’re still not sure how much you should borrow, consider meeting with a financial advisor who can help you figure out the right amount. When you take the time to think through all the variables involved in buying a home and taking out a mortgage, you’ll be in a better position to make a choice that is right for you and thus alleviating some of the financial stress.
