Before you start house hunting, it’s crucial that you manage your budget, especially how much you can afford each month on your mortgage payment.
There are several ways to measure this, but one of the most popular strategies is called the “28/36 rule.” Here’s how the 28/36 rule can help you determine your price range for a home.
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More information: How much house can I afford? Use the Yahoo Finance home affordability calculator.
The 28/36 rule is a commonly used guideline to determine what you can spend on a home. According to the rule, you may spend a maximum of 28% of your gross monthly income on housing (your monthly mortgage costs) and a maximum of 36% on all your debts. This includes your mortgage payment, student loan, car payment, credit card minimums, and any other debt you pay off each month.
Keep in mind that “house payments” for the 28/36 rule refer to the costs that make up your monthly mortgage payment, such as principal, interest, property taxes, and homeowners insurance. Other housing costs, such as incidental repairs, are not included.
Mortgage lenders also use the 28/36 rule to assess your ability to make monthly payments when you apply for a mortgage loan. However, it is only a general rule of thumb, and many lenders allow borrowers to exceed these thresholds and still qualify for a loan.
More information: The best mortgage lenders for starters in the housing market
It is easiest to understand the 28/36 rule with an example. Suppose you and your partner earn $120,000 per year – or $10,000 per month in gross income (before taxes).
Under the 28/36 rule you can take into account:
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$2,800 per month on your monthly mortgage payment (0.28 x $10,000 = $2,800)
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$3,600 per month on your total debt payments (0.36 x $10,000 = $3,600).
You can then use a mortgage calculator to determine what home buying budget you are working with. For example, with these thresholds and an estimated mortgage interest rate of 6.75%, you could afford a house worth around €450,000.
Dig deeper: What percentage of your income should go towards a mortgage?
The 28/36 rule is another way to break down your debt-to-income ratio, or DTI — a reflection of how much of your monthly income your debts take up. To calculate your DTI, divide your gross monthly debts (before taxes) by your gross monthly income, as in the example above.
DTI plays an important role in your ability to qualify for a loan, and mortgage lenders typically look at two factors: your front-end ratio and back-end ratio.
The front-end ratio of your DTI is the amount of income your mortgage payment applies to. Your back-end ratio represents your total debt payments relative to your income. (With the 28/36 rule, the “28” is the front-end DTI, while the “36” is the back-end.)
Read more: How much money do I need to buy a house?
If you don’t see numbers you like when breaking down your debt-to-income ratio or you’re concerned about qualifying for a loan based on the 28/36 rule, there are things you can do to help your case to help.
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Pay off your debts: The less debt you pay each month, the more cash you can put towards paying your mortgage.
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Increase your income: A higher income means a lower DTI and a greater chance of qualifying for a mortgage. You can increase your income by asking for a raise, working more hours, taking on a side job, offering consulting or freelance work, or taking a second job.
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Postponement buying a house: Waiting a while before buying a house can also help. This may give you more time to reduce your debt, get a promotion at work, or make other changes that can help, such as improving your credit score.
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Adjust your property search: If your current 28/36 numbers aren’t enough to buy a home in your ideal neighborhood, you can look for creative solutions like buying a condo or co-op, searching more rural communities, or shopping for a smaller house.
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To engage a co-buyer: If you can land another buyer (and their monthly income), it could improve the numbers and sway things in your favor. Make sure it’s someone you trust financially, especially if both names are on the loan documents.
Talking to a loan officer or financial advisor can also help. They can provide you with personalized guidance based on your specific home buying goals and finances.
Dig deeper: Is Now a Good Time to Buy a House?
The 28/36 rule means that you may spend a maximum of 28% of your gross monthly income on housing (your monthly mortgage payments) and no more than 36% on all your debts.
If you use the 28/36 rule, you can probably afford a monthly mortgage payment of $2,800 and $3,600 in total debt, including your mortgage, car, student loans, credit card, and other debts.
The 28/36 rule is based on gross income, which is your income before paying taxes. Under the 28/36 rule, you can typically afford a home with a payment that is 28% or less of your monthly gross income and total monthly debt payments (including your mortgage) that are equal to 36% or less of your monthly income.
The 28/36 rule is another way to represent DTI, or debt-to-income ratio. The “28” refers to your front-end DTI, which is how much of your monthly income goes toward housing costs (ideally no more than 28% of your monthly income). The “36” refers to the ideal back-end DTI – or how much of your monthly income your total debts make up, including your mortgage payment, car payment, student loan, and other debts. According to the 28/36 rule, no more than 36% of your monthly income should go towards all your debts.
This article was edited by Laura Grace Tarpley.
