Overview and Why You Need to Budget
In today post we’ll discuss everything you need to know about budgeting to buy your first home!
The main topics we’ll go over are:
- Why budgeting for a home is important
- What a budget for house buying should include
- How Much should you Budget when buying your First Home
- How to Use this Information to Calculate Your Budget as a First Time Home Buyer
- BONUS: Download a First Home Monthly Budget Worksheet
Why is Budgeting for a Home an Important Step?
There are 5 main reasons why budgeting for your home is the first step:
- Gets you ready for the mortgage payment and other house related expenses
- Allows you to start thinking about saving up for your down payment
- Gives you insight into your financial health – you may not actually be ready to buy a house and digging into your budget and spending habits can unlock this information for you
- Can help you make better financial decision around how much house to buy. People very often buy more house than they actually need or can afford. By digging into your financials and being accurate with your budget will reduce so much stress in your life
- You’ll know what you can afford and what you want to pay – this will help make sure you don’t get “sold” by a salesy realtor or mortgage agent
What Should a Home Buying Budget Include?
This section is broken into 2 parts:
- Cash you will need to buy the home
- Monthly costs you’ll have when you own the home
Cash You’ll Need In Hand to Buy Your Home
The first things you want to include in your budget planning are your up front costs to buying a home. This will help you understand exactly how much you’ll need to save before jumping in.
The main costs you’ll likely have and things to consider during the home buying process are:
- Rainy Day fund
- Down payment & Closing Costs
- home inspection and appraisal fees
- land registration fees
- prepaid property taxes or utility bills (the buyer reimburses the seller or builder)
- legal or notary fees
- GST/HST/QST on a newly built house or mortgage loan insurance
- Moving Fees & New Furniture
- Repairs or Upgrades
Monthly Expenses You Can Expect Once You Own Your Home
The next thing you’ll want to consider when you buy your first home are the monthly costs. From my experience, this where things can get tight. You’ll want to make sure you’re as accurate as possible or even try to be conservative on your calculations here.
Here are the primary regular payments you’ll need to make when you get a home:
- Mortgage Payments
- Home Insurance
- HOA, Condo, or Strata Fees
- Repairs and Maintenance
- Utilities
- Property Taxes
So How Much Should You Budget?
Recommendations from a professional banker
It’s recommended that the monthly housing costs should be no more than 39% of your gross pre-tax income. In the mortgage world, this calculation is called your Gross Debt Servicing Ratio or GDSR
It’s also recommended that your total debt payments plus your monthly housing costs should be no more than 44% of your gross pre-tax income. In the mortgage world, his calculation is called your Total Debt Servicing Ratio or TDSR.
What I strongly suggest to my clients is to “stress test” your situation the same way banks and professional investors do.
Why?
Because life happens.
Here’s how banks stress test your mortgage (and how you should too):
- First, you need to find out what rate and amortization you will qualify for.
- When you find out the rate and amortization that applies to your situation, instead of calculation the mortgage payment with that rate, use that rate + 2%. For example:
- Let’s say you qualify for a mortgage at 5% interest
- You will want to estimate the mortgage payment at 7% instead
By stress testing the mortgage payment, you will be better equipped to handle an increase in costs of owning a home.
Calculating Your Budget - How to Use This Information
To use all of this info properly, you want to start with the end in mind.
We’ll want to compare 3 numbers:
- How much excess monthly income you have after paying all of your expenses – this is a normal financial budget
- The Monthly Payment that gives you a GDSR less than 39%
- The Monthly Payment that gives you a TDSR less than 39%
Below, I will go over these calculations briefly, what you’ll want to do is calculate each one, and then select the lowest number.
Note: to help with this, I made a worksheet you can download to calculate this! (you can find it at the end of the post)
Standard Monthly Budget
I won’t go in too much detail here but this would include all of your regular expenses that you expect to have. I always suggest including a buffer amount on this for highly variable costs that can come up like entertainment or eating out.
Standard Monthly Budget
To figure out the monthly payment that your GDSR would allow for, you would use the following formula:
Maximum GDS Monthly Payment = 39% of Total Monthly Income
Standard Monthly Budget
This calculation is nearly identical to the GDSR but includes some of your debt payments and expenses. The ones typically included by lenders are:
- Credit card, line of credit, and loan payments
- Vehicle payments
- Student loan payments when payments are being made
- Any spousal or child payments
To make the formula simple, I will call all of these “eligible expenses”.
The formula then is:
Maximum TDS Monthly Payment = (44% of Total Monthly Income) - Eligible Expenses
House Buying Budget Worksheet
To help make your home buying experience as stress free as possible, I’ve created a budgeting sheet that you can fill in to help estimate what you can afford and feel comfortable paying in a mortgage.