One of the first questions that homebuyers and their REALTOR® need to discuss is financial: What price range are you interested in, or how expensive a house can you afford? In addition to income, credit score, other debts and available equity savings (for down payment), it may depend on type of loan eligibility, local incentives and whether a home is located in a flood zone or in a homeowner’s association.
Because of the complexities of personal finances, most realtors will recommend that clients meet with a mortgage professional to obtain loan preapproval prior to showing properties.
Knowing what a homebuyer can borrow (via a preapproval letter) does not necessarily translate into what that buyer will comfortably afford. This is where the real estate agent needs to help guide the evaluation process. For most of us, I suggest that there are two “financial personality” types: cash-flow folks and debts/equities people.
Cash-flow folks will focus on the monthly mortgage payments for a price range (principal and interest) as well as additions for taxes, insurance, HOA fees, etc. Since they are aware of their monthly take-home pay as well as other regular expenses (car payments, family spending), they can quickly assess whether they can afford the payment.
Debts/equities people are more concerned with how much the loan balance will be upon closing and are inclined to maximize their down payment to minimize the amount owed. Most in this group will get a conventional loan if they can and would rather put extra money toward the principal of the loan each month than pay for Private Mortgage Insurance (PMI). These people dream of a “no-debt” future and may be willing to delay paying for cosmetic upgrades rather than having those upgrades incorporated into the sales price and the loan amount.
Whatever the financial personality, there are a number of considerations that come into play when buyers are comparing homes and deciding what they can afford. An experienced agent can provide valuable information and advice. Few buyers can afford a “money pit,” and it may not be readily obvious that this is the reason some homes have an attractive listing price. Agents can assist buyers with obtaining estimates for remodeling jobs. This may determine whether they can afford a particular home and also inform what they might be willing and able to pay. A “cash flow” buyer may need to focus on homes that are move-in ready, with few maintenance issues on the horizon.
Many maintenance and upgrade costs are based on the size of a home (think of roof, floor coverings, number of baths). For most buyers, a “right sized” house will be more affordable in the long run than a larger home at the upper end of their price range.
The risk of waiting to buy is now adding a new wrinkle to the equation. Interest rates have risen substantially, and we are now looking at 5+ percent rates for the foreseeable future. A payment (principal and interest) of $1,342 on a $250,000 loan (at 5 percent) goes to $1,419 if the rate increases to 5.5 percent. That is an increase of $77/month for the cash flow folks, and will add up to $27,000 over the life of the loan for the debts/equities people! And this is not taking into consideration any increase in sales price. At a rate of 5.5 percent, every extra $1,000 of loan amount will add about $6/month to the mortgage payment. The cost of waiting to buy could have a significant influence on how much house you can afford.
I continue to suggest to clients that we are in a unique market opportunity, since rates are still at historical lows, and we have not (yet) seen significant price appreciation. This may be the time to make the move!