Sometimes you have to take a step back before you can make a leap forward.
Take the case of Rebecca Sosa, 32, an immigration lawyer, and her husband Luciano, a chef. They recently spent two years living with Ms. Sosa’s mother in a two-bedroom apartment in Manhattan in order to save up to buy their first home, a two-bedroom co-op in Queens.
“It can seem frankly impossible for any young person to buy their own place,” she said.
But let’s step back and consider some of the pathways to making home ownership happen.
A big factor that scares a lot of would-be first-time home buyers is their student debt. Nationally, student debt stands at around $1 trillion, and the average debt at college graduation stands at about $35,000.
But carrying debt from school doesn’t have to mean you can’t buy a home.
When you apply for a mortgage, the three biggest factors that will go into whether you’ll be approved: how much you can put down, your credit score and the ratio of your debt to income. The most important of those factors is the latter: your debt-to-income ratio, usually called your DTI.
A standard figure lenders use is that no more than 36 percent of a borrower’s net income should be used to pay down previous debts.
So let’s say you can afford to pay $1,000 a month toward your debts—for student loans, maybe a car loan, or anything else. And let’s say you make $45,000 a year—that’s just about the average starting salary for college graduates with degrees in the humanities last year, according to the National Association of Colleges and Employers. Your net income after taxes and other deductions would put you just within the typical range you’d need to get approved for a mortgage.
Pay attention to the regulatory environment on this stuff, too. In 2014, new rules as part of the Dodd-Frank financial reform act were enacted to make it harder for banks to issue home loans to borrowers unlikely to be able to afford them. Among the changes the new rules impose: mortgages can’t have terms longer than 30 years, and a DTI of no more than 43 percent will be allowed. If you’re on a buying timetable of more than a few months out, be aware of potential changes, as President-elect Trump has vowed to change and possibly repeal Dodd-Frank.
In most of the country, lenders generally require that no more than 28 percent of your net income go to regular housing expenses—mortgage payments, taxes and insurance, as well as common charges if you’re buying a condo or a co-op. Within New York City’s five boroughs, the percentage of income going towards housing expenses is usually higher, although there’s no set cutoff point.
Does that mean it’s a good idea to buy a home if your salary is $45,000 and your debt load is $1,000 a month? No. For one thing, your 20 percent down payment will not materialize out of thin air. For another, you’ll need to have cash on had for things like appliances and furniture, as well as some extra cash to act as a cushion for the unexpected. But knowing what lenders will look at does give you an idea of what it will take to get the process started—or to know when you might be ready to take the plunge, if you’re not yet.
Another key thing to remember here is that the total amount of debt you’re carrying will matter far less to a lender than your DTI, down payment amount and credit score.
Pre-approval for a mortgage from a lender is a good step to take early in the process. This basically means the lender looks at your income, debt and credit score to tell you, hypothetically, whether you could get a mortgage, and for how much. This can help you set realistic expectations for what you can afford as you look at possible homes to buy.
You should also make sure you’re also thinking about less obvious costs that can come up. Through the process of working with a realtor to find a home, you’ll learn what to expect in closing costs—typically it’s around 3 percent. That’s money you’ll need upfront, along with your down payment.
But there are also other costs that a landlord would eat if you rented—and they’re not always easy to predict. In addition to things like major repairs and maintenance of your home, factors that seem like they can come out of nowhere can impact the cost of owning. Take something that may seem abstract to a many of us, like the price of crude oil. Right now it’s in the low $50s per barrel. A little over two years ago, it cost over $100 for a barrel of crude oil. That extra cost was passed onto homeowners in the form of much higher bills on heating oil. Will it spike back up again? You’ll want to factor in the possibility of unexpected costs like this.
“It’s short-sited to only look at principal and interest,” says Lina Panza, a real estate agent with Keller Williams in northern New Jersey. “Research the cost of utilities. Some houses are very expensive to heat, some houses are not.”
She notes that utility companies will usually tell you the average amount of a particular home’s gas bill throughout the last calendar year. If this sounds like a lot of legwork, consider that an energy-efficient home might cost as much as $200 a month less to heat than one that’s not very efficient.
If you’ve given some thought to these matters and the numbers look like they can work, you might be closer to home ownership than you thought.