What Common Financial Rule Should You Use to Build Your Homebuying Budget?

Estimated reading time: 3.5 minutes

How you budget affects your mortgage affordability. While buyers in older generations may have followed specific guidelines laid out by economists or their mortgage lenders, buyers in the 2020’s markets are creating their own way to being mortgage ready by focusing on affording ongoing costs and other parts of their lifestyles. What are some common financial rules that people suggest? How do you know which to follow or ignore?

What is the 30% Rule?

The 30% rule became popular beginning in the 1960s when the United States government capped the cost of rent in public housing to 25% of renter’s income. By 1980, the rent limit was raised to 30% by Congress and became the standard measure of housing affordability.

It dictates that a person should not spend more than 30% of their gross monthly income on housing, saving 70% for other expenses. A person’s gross income is all the money earned whereas a person’s net income is the amount leftover after taxes and payroll deductions.

What is the 28/36 Rule?

The 28/36 rule reflects to what many people call the front-end ratio and back-end ratio on a mortgage. It states that only 28% of your gross monthly income should be spent on housing and 36% on all debt combined, including the percentage for your housing costs. While a conventional conforming loan typically uses a 36% debt-to-income ratio, it isn’t make or break for other loan programs.

Your debt-to-income ratio can be determined by your loan program, so it’s best to ask your Licensed Loan Originator what ratio you should work toward.

What is the 35/45 Rule?

Similar to the 28/36 rule, the 35/45 rule advises you keep your total debt payments under 35% of your pre-taxed income and 45% of your post-tax income. However, to follow this, a person must know what their tax rate is for budget calculations to be correct.

Which Rule Should You Follow?

Budgeting rules are just guidelines for consumers and not necessarily something set in stone. While the 30% rule used to be the norm to shoot for, mortgage lenders use a more detailed way to determine borrower affordability. They will take your credit, down payment amount, and debt-to-income ratio into account as well.

What is Included in a Mortgage Payment?

There are four parts to a mortgage payment: the principal, interest, taxes, and insurance. The principal of your mortgage is the base amount of money you borrow for the loan. More specifically, it’s the difference between your down payment and the final purchase price. When you first begin paying your monthly payments, the money will mainly go towards interest, or the portion you pay to the lender to borrow money. Depending on what type of home you purchase and how big your down payment is, your monthly payment may also go toward property taxes, homeowners insurance, private mortgage insurance, and HOA fees.

We Can Help You Determine Your Home Affordability

At Homestead Funding, our Licensed Loan Originators work with each of our borrowers to find the mortgage solution that best aligns with their goals. Just like a mortgage program isn’t one-size-fits-all, your budget should reflect your individual goals, priorities, and other debts. It’s our goal to make every person comfortable and confident in their home financing choices. To get started, contact us today.