[Note: Scroll to the bottom of the post at anytime to download the calculator]
A house is the biggest purchase that many of us will ever make.
Yet far too many people spend disturbingly little time running the numbers on what they can afford.
People will literally spend more time agonizing over whether to spend an extra $400 to get the 15" or the 13"Macbook Pro than they do evaluating the single biggest purchase of their lives.
It makes sense that we do this. Our brains are wired in two ways that make us susceptible to buying a more expensive home than we can actually afford.
- We naturally compare ourselves to others, which leads us to feel like we must buy a home in the first place, or risk "falling behind." And once we commit to buying a home, this same mental glitch coerces us into buying more home than we can actually afford.
- Human brains have a much harder time comprehending large numbers and long time periods compared to small numbers and short time periods. That's why deciding whether to spend an extra $400 today can actually feel more difficult than deciding whether to spend an extra $80,000 over the next 30 years.
I want to help you overcome these cognitive vulnerabilities and give you the tools you need to get the REAL numbers on your potential home purchase.
But before we get into the numbers, the first question to ask yourself is: Are you buying a home for the right reasons?
I should note that my perspective is not entirely theoretical. I am currently a homeowner, a renter, and a landlord, and my opinion has been informed by my experience with all of these roles.
Bad reasons to buy a home:
- Because it's a good investment. Unless you get really lucky, once you factor in expenses, your primary residence is almost never a great investment compared to alternatives. This is especially true once you factor in the time value of your sweat equity as well. If financial gain is your goal, there are much easier and more reliable ways to make money - including investing in a simple index fund.
- Because renting is "throwing away money." False. That's a good old American myth. Do you know why you hear it so often? It's a classic example of people literally parroting other people ad infinitum in order to make themselves feel good and smart. Seriously. Next time someone says this, ask them how they came to that conclusion. Some people will immediately get defensive and accuse you of being anti-American, but for the ones who actually manage an attempt at answering the question, see if they actually offer numbers and specifics, or just general platitudes and assumptions like "property values are always increasing."
- Because everyone is else is doing it. This is a terrible reason to buy a home or to do anything else. Anytime everyone else is doing something is actually the most important time to question whether it's a good idea in my opinion.
- Because it will make you feel fulfilled. If your fulfillment is dependant on spending tons of money on a capital asset, you need meditation or therapy, not a house.
Good reasons to buy a home:
- You don't want to be subject to landlord whims regarding rent increases or eviction.
- You want permanence and don't like to move very often.
- You want to do things like paint, change light fixtures, remove walls, etc. in exactly the way that suits your preferences and lifestyle.
- You're a terrible saver and have no hopes of improving. In that case, building home equity functions as a fairly good forced savings account.
I know that most of you will read these bullet points and then promptly ignore them.
I get it. The myth is strong. Home ownership is amazing. It is so smart and good and American and everyone who owns a home is so happy. We are spoon-fed the myth from the day one.
And admittedly I may be underrating the potential value of the placebo effect at play. Owning a home may indeed make many people feel better about themselves for no other reason than we've been taught our whole lives that it will make us feel better about ourselves. It's like taking your vitamins. Completely ineffective, but hey, vitamins makes us feel healthy! And at the end of the day, perception is reality.
So whether you're going to buy a home for good reasons, or bad reasons, or some combination of the two ( I'd put myself in this third camp), the primary purpose of this post is to give you the information you need to gain a full understanding of what it will truly cost you.
I want to help you feel 100% confident that you aren't accidentally crippling your finances for years to come.
That is why I built you a spreadsheet that will calculate the true cost of owning that home you have your eyes on.
Here's what you need to know about the spreadsheet:
There are 4 tabs in the spreadsheet:
TAB 1: Instructions
Read this tab first! There are only 9 things to read.
TAB 2: True Home Cost Calculator
This is the actual calculator. On this tab you will input the details specific to your situation, such as purchase price, loan rate, property taxes, etc.
If the text is blue, it means it is an input and you should edit it to match your specific purchase. Edit the blue text only, unless you know what you're doing.
For non-home specific inputs like expense growth rate, the model has standard assumptions (3% in this case). I recommend not changing such assumptions unless you have stats to back them up.
For loan rates - you can check with your lender or broker if you have one, or you can just google it, and you'll find places like Bankrate or Wells Fargo which have the latest rates (they change daily).
Note that the top section of the calculator is for income:
This is where you would put any income you would get from renting out a spare room in your house, or being an Airbnb host or anything like that. The default is zero, but if this is part of your plans, then there is a place to factor it in.
For those of you who don't speak spreadsheet, the little black triangles in the corner of any given cell means that if you have hover over the cell, you will see a note. Like this:
TAB 3: Key Stats
This is the at-a-glance summary of how affordable your potential home is. The most important stats on this page are your all-in monthly payment and the income you need to earn for the house to be "affordable."
Of course these are actual numbers in the real calculator, not just question marks!
After you enter all your info in Tab 2, you can easily click over to this tab to get the quick overview.
TAB 4: Notes: Manufactured Homes + Investment Properties
I recommend consulting other resources if you are considering buying either of these things, but this tab does include a few technical notes regarding debt structure for these types of purchases.
OK, enough explaining, time to go see for yourself how much house you can afford: