Today I’m going to show you a VERY effective strategy on working out how much home you can afford.
In fact, we have recently used these exact steps to help over 113 home buyers with getting their first house.
Let’s jump right in…
- 1. How to use ‘How much can I buy calculator’?
- 2. Determine your income versus expenses
- 3. The bigger deposit – the more home you can afford
- 4. Practice your monthly mortgage payment
- 5. Calculate your debt to income ratio
- 6. Get your free credit score
- 7. Be aware of your credit score and how it affects your borrowing power
- 8. Carry Out Thorough Research
- 9. Find a Loan Package that Suits Your Financial Goals
1. How to use ‘How much can I buy calculator’?
Some banks call it serviceability, others call it affordability and you might have heard it called borrowing power.
But at the end of the day, all you want to know is – how much can I afford to buy?
Using our calculator, we look at what you’re currently paying in rent and savings per week – your surplus money after expenses to find your house price guide.
Follow the steps to work out your house price guide:
- 1. Change your rental period to weekly, fortnightly or monthly (depending on how you pay rent)
- 2. Enter how much you have in savings towards your deposit (if you aren’t sure on how much deposit you need, look at our deposit calculator)
- 3. Enter your deposit amount, we recommend a minimum of 8-10%.
- 4. Now move the slider to be the amount you are paying in rent and savings per week, fortnight or month (depending on what you chose in step 1)
- 5. Now see your house price guide, and what the rough monthly repayments are.
- Note: The information provided in this calculator is intended to provide illustrative examples based on stated assumptions and your inputs. Calculations are meant as estimates only and it is advised that you consult with a mortgage broker about your specific circumstances.
2. Determine your income versus expenses
Essentially, what you can afford depends on your current earnings and what you spend out of that. It’s all about your incoming versus outgoing money.
Nobody likes the B-word (budget) but realistically this is what the next step is in order to start to consolidate your spending.
Speak to our team at Hunter Galloway about this, as we truly have some thrifty savers right at the forefront of Hunter Galloway, leading the way.
As a general rule, you should not use more than 28 per cent of your monthly income to make loan repayments. Although, it is a crucial investment, yet, it should not cross your spending limit. This can very risky, especially if interest rates increase.
Top tips for tightening your expenses:
- ✅ Look at all of your expenses including existing loans, car debt or credit cards.
- ✅ See what you can remove from your everyday life (small or big). Here’s our simple approach to budgeting.
- ✅ Budget on a weekly basis to make it easier and more achievable.
- ✅ Figure out 28% of your income that will go towards your mortgage repayments [example below]
If we’re going for 28% of our income and earning $850 per week (after tax) then you’d ideally want to be paying $238 per week towards your mortgage to stay within your spending limit. In this case, it could be best to buy with a partner or family member so you can buy something nicer and help make the repayments more affordable.
3. The bigger deposit – the more you can afford
The more you can save, the better off you’ll be. As the example above shows, if you aim for 28% of your income for the repayments, it actually isn’t a lot. So by having a bigger deposit, it will help you increase borrowing capacity and cut down your loan quicker. It also means that you won’t need to pay lenders mortgage insurance (LMI). Generally, if you have less than 20% deposit you’ll need to pay LMI, so to try and remove this extra cost save a bigger deposit.
Ideas to increase your deposit:
- ✅ If you already own a home – you can use the equity in your current property to increase your deposit.
- ✅ Any financial gifts can help increase your deposit and get you ahead.
- ✅ Learn more about lenders mortgage insurance here
- ✅ Use our LMI Calculator and see how much you would need to pay.
4. Practice your monthly mortgage payment
So if you’ve decided to hold off on buying for a little while, then consider practising your mortgage repayments ahead of time to really begin to understand how buying a home will affect your monthly budget.
This is especially appropriate for those whose estimated mortgage is higher than their rent. So for the next few months start putting away the extra money that you’d put towards your mortgage repayment to simulate making that payment, and see if your budget feels comfortable.
If you’re struggling then it’s time to reconsider what you can afford.
The strategy in summary is:
- ✅ Start putting away the same amount of money as your mortgage repayments to simulate it.
- ✅ Review after three to four months and see if you can afford it.
Read More: What to know about applying for a home loan
5. Calculate your debt to income ratio
Now it’s time to be brutally honest with yourself, and a word of warning – it may end in tears, but you’ve got to do it (sorry).
Your debt-to-income ratio requires you to figure out all your monthly debt payments (car loan, credit card bills and future mortgage payments) and divide it by your gross monthly income (what you earn before taxes).
The lower your DTI is the more financial options you will be able to access.
Certain lenders apply a DTI limit, including Commonwealth Bank, National Australia Bank and Non-Bank lenders, which basically means that they set a cap on how high the applicants DTI can be in order to apply for the loan.
Let’s look at how DTI works.
For example, you’re a couple earning a gross income of $50,000 per year each ($100,000 in total) and you’d like to borrow $350,000. You worked out your total liabilities include:
- $350,000 for your new mortgage
- Credit card monthly limit of $1,000
= Total debt: $351,000
Now it’s time for the mathematics:
$351,000 (debt) ÷ $100,000 (total income) = 3.51 DTI
So in simple terms, your total debt is 3.51 times your combined income.
Is 3.51 a high DTI?
The above example is considered to be about normal, generally, a DTI higher than six times the borrower’s income is considered to be high risk (6 DTI).
This DTI would put the borrower under a lot of financial stress if their financial situation were to change suddenly or if interest rates were to rise.
6. Get your free credit score
Your credit score affects your borrowing power, so if you’ve got bad credit then it’s time to turn this around.
Credit scores are calculated on your history of repaying loans and bills, along with how many times you’ve applied for credit.
If you’ve defaulted on a loan in the past or been bankrupt then this will affect your score.
Tips to help your credit score:
- ✅Consolidate debt and try to pay it off as quickly as possible.
- ✅If you have any defaults or bad credit ratings, contact the company directly and see if they can remove this for you.
Hunter Galloway can send you your free credit score to help get this step moving.
7. Be aware of your credit score and how it affects your borrowing power
There are a few factors that come into borrowing money and one of them that’s often forgotten is how important the ol’ credit score is.
As I mentioned above, it’s all about your payment history and whether you’ve been on top of your payments in the past. However, a lender will also consider all of your other types of credit (credit cards etc.) when determining how much you can afford.
So even if you have a credit card sitting around gathering dust that has a $20,000 limit on it, this will significantly affect how your lender perceives your application.
Because in their eyes, essentially there’s nothing stopping you from going out and dropping that $20,000 on a new car tomorrow.
- ✅Remove any credit cards that you are no longer using – even just having them open affects your borrowing capacity.
- ✅Review your financial situation and any credit accounts you may be unaware of that are still open.
8. Carry Out Thorough Research
It’s time to carry out detailed research to figure out the market prices and rates. Comparing home loans will enable you to make the right decision and find out the maximum loan you should borrow that allows you to live comfortably.
For example, you wish to borrow a loan of $300,000 and have to make a monthly repayment of $2,000 based on the lender and cash rate.
Before you sign up for it, ask yourself the following questions:
- 🤔 Can you afford it?
- 🤔 Can you pay the monthly repayments?
- 🤔 Can you manage your other living expenses with these repayments?
If the answers to the above questions are yes, then you’re in the clear. But if it is no, consider postponing the decision to buy a house until you are ready. Speak to our team about doing up a budget plan and helping you figure out what you can afford.
Read More: How much will my home loan repayments be?
9. Find a Loan Package that Suits Your Financial Goals
There are a number of home loan packages in the market. The financial situation of every individual is different and not one home loan may not be suitable for everyone. Therefore, it is important to find a package that suits your financial goals. If you’re a first home buyer and need a complete guide, you can find that here.
The following are a few things you need to consider when finding a loan package:
- What Interest Rate Should I Use? – When buying a house, borrowers have the option to choose a variable interest rate or fixed interest rate. Your mortgage broker will be able to provide you with information on both options to help you figure out which one is best for you.
- What Should the Loan Terms be? – Most home loans have a term period of 30 years or more. However, you can even choose a term of up to 40 years – the maximum term period offered in Australia. Remember that your repayments will be higher if the term period is short. However, if you pay off the loan faster, the overall cost will reduce as you will have to pay less interest.
- Devise a Strategy – If you have devised an effective strategy, you will be able to repay your loan efficiently. Consult your broker in order to devise a good plan and come up with an effective strategy on how you will pay off your loan and which interest option is best for you.