How Much House Can You Afford?

One of the issues I’m tackling in Plenty is the usual calculators on how much house people can afford. By how much I mean how many dollars, not how much square footage (I’ve been reading Sarah Susanka’s Not So Big House series lately, and interviewed her thanks to my blog readers’ recommendations … something I will cover in the near future). I think many of these calculators are probably too aggressive. Not because people can’t handle the mortgage payments they suggest, but because in the context of overall happiness, there are solid reasons you might not want to.

With low interest rates and the existence of 30-year mortgages, the temptation is always going to be to borrow more. An additional $100,000 of house involving an extra $80,000 in loan (so, say, a $300k house to a $400k house, and going from $60k down to $80k down) is roughly an extra $500 a month. That probably sounds manageable for so much more house, especially if you have that extra down payment sitting around, a thought process that continues all the way up the line. The fact that mortgage interest is generally tax deductible also tips the scales toward borrowing more.

The problem is that research keeps finding that happiness is often sparked by small, repeated, but always changing pleasures. Perhaps a lovely home can do this for us, one that embraces us as it welcomes us home at the end of the day. But the hedonic treadmill means we adapt to most things that are constants in our lives. Like our homes and cars. Vacations, travel, dinners out, decadent foods purchased whether you have a coupon or not, gifts, massages, etc., on the other hand, are a little different every time. What the mortgage calculators don’t say is that the difference between spending 25% of your income on housing and 33% is 8% to spend on other things that have a good chance of boosting your well-being more, over time, than a more expensive house.

The counter-argument is that none of these other pleasures has the potential to go up in value. Because most home purchases involve leverage, even small amounts of appreciation have you living there for free. On the other hand, I just read an article pointing out that real estate prices have declined by 60-70% in some markets. Even more modest levels of depreciation can make you take a bath. If you put 10% down and housing prices decline 10% before you’ve paid much on the principle, you’ll lose about 100% of your money. So it’s unclear what’s a reasonable assumption at this point. At least no one can take that vacation to Paris away from you.

9 thoughts on “How Much House Can You Afford?

  1. We’re living this right now. We’re approved for $X amount, but because we’d really like to sleep at night and you know, buy groceries and take the occasional vacation, we want very much to use about half that. Sadly, most sellers in the Chicago area seem to think it’s still 2006 and have priced insanely high. I suspect many of them are upside-down in their mortgages and the next step is a short sale/foreclosure. So, once our house in Colorado finds a buyer who doesn’t care there’s an elementary school behind the house (sigh), we plan to jump on an inexpensive foreclosure. Not only because it’s so much less, but because we could get those small and changing pleasures by gradually renovating it.

    1. @Jen- hey, if you’re up for renovating, then it sounds like a plan. There is a lot of stickiness in the market right now. I guess you are hunting for that perfect sweet spot of someone who has to sell (and hence is open to negotiation) but also has enough cash that they are able to do (they don’t need permission from the bank to take a hit). Good luck!

  2. Rich Dad / Poor Dad (a book I didn’t really like at all, except for this one point) made a pretty good case for not owning a house at all. That renting makes more sense from a financial standpoint.

    Do wealthy people borrow money for houses? DH and I have been having a discussion that perhaps one of the secrets for wealth is no debt at all. Certainly not on credit cards or for cars and maybe not for houses, either.

    1. @Joy – the answer (on whether wealthy people borrow) depends on a few things. For it to make sense to borrow cash that you already have you have to think that you can get better returns on other investments than the interest you’re paying. If you think you can get 8% in the market, then it definitely makes sense to borrow at 4.75%. However, many people don’t think you can get 8% in the market right now, since we’re just coming off a massive run-up from the March 2009 lows. If anything, the market will be flat or fall a little (based on general estimates). Long term it will probably be up again, but you have to figure out what “long term” means for you. The other factor pushing people to borrow cash they already have is that mortgage interest is deductible, and wealthier people often pay higher tax rates, meaning it’s a very nice deduction. It’s only deductible for the first $1.1 million or so borrowed, though, so if you look at some more expensive real estate transactions, you’ll find that people borrowed exactly whatever the max deductible amount was, and paid cash for the rest.
      I also had some issues with Rich Dad/Poor Dad, but I thought he had some nice lines. Instead of saying “I can’t afford it” ask “How can I afford it?” and then figure out if you’re willing to do what that entails.

  3. You can also leverage the equity in your home for other things. Today I am daydreaming of taking $50,000 or more out of our house to grow our business. It wouldn’t be FREE money but it would be much cheaper than going to a bank for a small business loan. I also really like rental properties as a long-term investment, easier to understand than the stock market. Not for everyone all the time but rental income is basically free money if you can get it from a renter for less than the mortgage.

    ALSO Laura on your article last week about marriage it says that you work 45 hours a week and about working weekends. I try to work weekends to get to 45 hours but it is very hard with two kids under 3, not only in terms of time – I ran errands yesterday and felt great about getting caught up and not doing them on a work day — but also in terms of motivation (I’d rather be with my kids than put in those extra hours even though I’d really like to put in those hours. One of the problems is carving them out…. I’m doing weight watchers (the writing it down thing works wonders I am down like 3 lbs and I didn’t even write everything down I ate last week just most things)
    right now and that meeting is at 9:30 a.m. Sundays so I might since I am already out of the house be able to do like 10:30 to 12:30 or 1:30 then get home. I am still breastfeeding so it is a challenge… but if you get out of the house before they wakeup no one seems to miss you. Thoughts? I definitely thinking the worked gained from 35 to 45 hours is great for one’s career and just for feeling on top of things at work. And I think the difference between part-time at 20 or 25 hours and 35 to 40 hours is also significant. As a working mom with a flexible schedule though it is easy to not put in the hours.. Another thought… maybe it is better for some working parents to not take long extended vacations but to work shorter workweeks, so as to have say daily weekly time with kids — have you done any work on this in terms of time management. so if the average person gets 3 or 4 weeks vacation and works 35 weeks that is 105 to like 140 hours of vacation divided by 52 weeks that means you could work like 3 hours less per week and still make the hours though there might be more burnout in this…

    1. @Cara- I think you should cut yourself some slack! You had a baby what, 2 months ago? In the early days when you are nursing constantly it’s really hard to get anything approaching normal work hours in. Many women who don’t own their own businesses would still be on maternity leave right now, so it’s not really the right time to be aiming for the full 45 hours a week. Right now you just need to keep things from blowing up and you can put more effort into it in another month or two when the baby starts getting more on a schedule. We started solids with Sam around 4.5-5 months, and I went to four feedings per day which is a lot more doable than 7-8.
      As for long-term work schedules. Because I like to think in terms of 168 hours rather than 24, I think there are some big advantages to “nurse’s hours” — 3 12-13 hour days instead of 5 8-hour days. Yes, on those 3 days you’re on there you really aren’t going to see your kids or do much in the way of a personal life (if you’re really ambitious you might get in a workout before your shift or a late dinner with your spouse after, but that’s it). On the other hand, that gives you 4 full days to do whatever you want, which is great for spending time with little kids and taking care of other priorities, even with full-time hours.

  4. We live in a moderate cost of living area (median house = $200-$250k) with a (now) poor job market. For people who aren’t committed to two career families, this can be a good choice because housing is cheap compared to urban areas. A couple can marry and pay off cars and student loans and pay off (or down) a house. Then when children come, the transition to one income or childcare is less harsh. Our house is paid for and it makes it much easier to live on one income. Taxes + childcare would take the first $55k of the second income and marginal rate after that would be ~52%.

    1. @Twin mom- yes, this would be another problem with mortgage calculators… they assume your income will continue to be what it is. I have heard that at times, people were encouraged to stretch early on because your income will always go up a few percentage points per year. Of course, this isn’t exactly true with any certainty anymore. A big financial trap for many people is setting their expenses based on, say, 2 incomes, and then wanting to transition to one. People can cut coupons like crazy, but it’s really hard to dig out of that hole.

  5. I like the Nurse’s hours idea and will try it!
    Do you think those longer work days work best like a Tuesday Wed. Thursday or spread out with the lighter days in between. I like Monday as a long work day because I’ve seen the kids quite a bit over the weekend and it is a lighter workday for my husband who works a lot of weekends in the business.
    Did you breastfeed the second one to a year? I want to do it for a year but don’t need to do 7 or 8 feedings, mine get the bottle of breastmillk very early (earlier than recommended) but thankfully have never given up the breast b/c of it … and thank gosh both have been very good about taking either bottle or breast. Latinos give soup at 5 months or even 4, which has some benefits to the working mom for sure – as long as they keep taking some breastmilk you maintain the connection I think. Some folks give cereal at 4 or 5 months, which is also common among Latinos and does show to make the kid fat, but the soup or like fruits and veggies are great!

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