Before you look at listings, it helps to know a budget that will not stretch you too thin. One of the most widely used starting points is the 28/36 rule. It is a guideline rather than a law, but it gives you a sensible number to work from.
What the 28/36 rule says
- 28%: your total housing costs (mortgage payment, property tax, insurance, HOA dues and PMI) should not be more than about 28% of your gross monthly income.
- 36%: your total monthly debt payments, including housing plus car loans, student loans, credit cards and other debts, should not be more than about 36% of your gross monthly income.
Gross income means before taxes and deductions.
Worked example
Say your household earns $96,000 a year, which is $8,000 a month before tax.
36% of $8,000 = $2,880 maximum total debt payments
If you also pay $500 a month toward a car loan and student loans, the 36% limit leaves $2,880 − $500 = $2,380 for housing. That is higher than $2,240, so the 28% limit is the tighter one and your target is $2,240 a month. If your other debts were $900 a month, the 36% limit would leave $1,980, and that would become your ceiling instead.
Turning a monthly payment into a home price
The $2,240 must cover more than the loan. Suppose property tax and insurance together come to about $400 a month. That leaves about $1,840 for principal and interest. At a 6.5% rate on a 30-year loan, each $1,000 borrowed costs about $6.32 a month, so $1,840 supports a loan of roughly $291,000. With a 20% down payment, that points to a home price of around $360,000.
Your numbers will differ with your rate, tax bill and down payment, so try your own figures in the mortgage calculator.
Costs people forget
- Closing costs: often estimated at roughly 2% to 5% of the purchase price, paid at signing.
- Maintenance and repairs: a common budgeting rule is around 1% of the home's value per year.
- Utilities and furnishings: often higher in a larger home than in a rental.
- Rising taxes and insurance: these can change, and your monthly payment changes with them even on a fixed-rate loan.
- An emergency fund: keep cash in reserve after the down payment so one repair does not become a crisis.
Is the rule too strict or too loose?
Lenders may approve you for more than the 28/36 rule suggests, especially if your credit is strong. Being approved for a payment is not the same as being comfortable making it. In areas with high home prices, sticking to 28% can be difficult; in that case, a larger down payment, a longer search or a different area may work better than stretching the budget.
This article is general information, not financial advice. A mortgage lender or a fee-only financial planner can look at your full situation.