How Much House Can You Actually Afford?

Affordability is two questions wearing one coat. The first is what an underwriter will let you borrow, which is a formula. The second is what you can carry for thirty years without resenting the house, which is a judgment call. Buyers who only answer the first question are the ones who end up house-rich and cash-poor. Here is how to answer both.

Start with the 28/36 rule

Nearly every conventional underwriting guideline traces back to two ratios. The front-end ratio says your total monthly housing payment should stay at or below 28% of your gross monthly income. The back-end ratio says all of your monthly debt obligations together, housing included, should stay at or below 36%. Lenders will stretch both numbers under the right conditions, sometimes to 43% or higher on the back end, but 28/36 is the shape of the thing.

Two details matter. First, both ratios use gross income, not take-home pay. If you are used to budgeting from what lands in your checking account, the lender's number will feel generous, because it has not yet subtracted taxes, retirement contributions, or health premiums. Second, the housing payment in the front-end ratio is not just principal and interest. It is PITI: principal, interest, property taxes, and homeowners insurance, plus HOA dues and mortgage insurance when they apply.

What lenders actually count as income

Underwriters want income they can prove and expect to continue. Salary is the easy case: two recent pay stubs and a W-2 usually settle it. Everything else takes documentation.

On the debt side, underwriters count the minimum payments reported on your credit file: auto loans, student loans, credit card minimums, personal loans, child support, and alimony. They do not count utilities, groceries, insurance premiums that are not escrowed, daycare, or a 401(k) contribution. That last group is exactly where a lot of real household spending lives, which is why the lender's ceiling is a ceiling and not a target.

A worked example

Say a household earns $95,000 a year, or about $7,917 a month before taxes. The 28% front-end limit puts the housing payment at roughly $2,217. The 36% back-end limit puts all debt at roughly $2,850. If the household already pays $420 on a car loan and $180 on student loans, that $600 leaves about $2,250 for housing under the back-end test, so the front-end limit of $2,217 is the binding one.

Now peel the payment apart. Assume property taxes of $310 a month and homeowners insurance of $135 a month. That leaves about $1,772 for principal and interest. At a 30-year fixed rate of 6.375% APR, every $1,000 borrowed costs about $6.24 a month, so $1,772 supports a loan of roughly $284,000. With 10% down, that is a purchase price near $315,000.

Pre-qualification is not pre-approval

These two words get used interchangeably, including by people who should know better, and the difference can cost you a house.

A pre-qualification is a conversation. You tell a loan officer your income, your debts, and roughly what you have saved, and they run the ratios and give you a number. Nothing is verified. It usually takes ten minutes and often does not involve a credit pull. It is a useful sanity check before you start browsing listings, and that is all it is.

A pre-approval is underwriting. You submit pay stubs, W-2s, tax returns, and bank statements; the lender pulls your credit and an underwriter reviews the file. What comes out is a commitment letter subject to an appraisal and a final check before closing. In a competitive market, a seller's agent reads a pre-qualification as a hope and a pre-approval as a buyer who can close. If you are shopping in earnest, get the pre-approval.

The costs the payment quote leaves out

Your mortgage payment is the floor of homeownership, not the ceiling. Budget separately for maintenance, which most planners estimate at 1% to 2% of the home's value each year. On a $315,000 house that is $260 to $525 a month you will not spend every month, and then will spend all at once when the water heater goes. Add utilities that are often higher than a rental's, HOA dues if they apply, and the initial wave of spending on a lawn mower, blinds, and the one appliance the inspection flagged.

Then there is the closing table. Between lender fees, title work, prepaid taxes, and the first year of insurance, expect 2% to 5% of the purchase price in closing costs, on top of the down payment. Lenders also want to see reserves left over afterward, typically two to six months of housing payments still sitting in an account.

Set your own ceiling first

Before you talk to anyone, run the payment you are considering through your actual budget for two or three months. Move the difference between your current rent and the projected housing payment into a separate savings account and live without it. If that is comfortable, you have found a real number. If it is not, you have learned something for free instead of for thirty years.

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