In my last column I wrote about Step Five of Dave Ramsey's Seven Baby Steps, Funding Kids' College (see http://www.daveramsey.com/new/baby-steps/). Before addressing Baby Step Six, which is paying off your home mortgage early, let's back up and consider guidelines for taking on a reasonable home mortgage. A home mortgage can easily become a drain on your income that makes moving through the Baby Steps difficult or impossible. Not only does a higher-priced home come with higher mortgage payments, but as a bonus it usually includes higher costs for property tax, utilities, and maintenance.
So the questions are, how much house can you afford, and when are you ready to buy a house? Of course, the 100% down plan is always the best option. What a head start you would have financially if you pay cash for a house! Unfortunately, this option is not feasible for most families, so we'll discuss the next best option - a reasonable mortgage. Dave Ramsey suggests at least a 10% down payment and a monthly payment of no more than 25% of your take-home pay (after tax) on a 15-year amortization. For example, if you make $60,000/year, your monthly take-home might be about $4000/month. 25% of that would be a payment of $1000/month. At 5% interest this would be a $126,000 mortgage, and if you put 10% down, you could buy a $140,000 house.
I know, this sounds very low, especially with current Cardston home prices. There are things you can do to pay more for a home while still following these guidelines. You could increase your income. For example, with a $75,000 income, you could pay about $175,000. You could save for a higher down payment, or you could sell stuff, such as a vehicle you don't need.
You know you're ready to buy a house when you are on Baby Step 4. You have paid off all of your other debts and you have 3 to 6 months of emergency savings in addition to your down payment. Normal people don't have the patience to get to this point before buying a house, but doing well financially isn't about being normal.
I'm not going to predict your financial demise if you don't follow these guidelines perfectly. However, it is important that you understand how all of the costs of home ownership fit into your budget. Be sure to include mortgage payment, property tax, utilities, other living costs, 15% of income for retirement savings, and enough breathing room to save for things like vehicle replacement and replenishing your emergency fund when (not if) life happens.
The dream of a nice home can quickly become a nightmare if you are struggling to make ends meet for 15 to 25 years of mortgage payments. If you're already in a home that you can't afford, have the courage to get out. If you follow the Baby Steps and other sound financial principles, it won't be long before you'll be able to afford your dream home.
If you have any questions or topics you want me to address, please email me!
