It is important to figure out how much you can comfortably afford ahead of home hunting to avoid being house rich and cash poor after your purchase. Also, the more you know about your current financial situation, the better prepared you will be when you meet with a mortgage lender or broker.
Step 1: How Much are you Spending Now?
Tally up your current monthly fixed expenses (groceries, clothing, child care, etc.), loans and debts (credit cards, car loans, personal loans, lines of credit, student loans, mortgages for properties already owned, etc.) and savings (RRSP, RESP, TFSA, savings accounts, etc.). Subtract that number from your total monthly net income (the amount of money your household earns on a monthly basis after taxes and deductions). The difference is how much money you have left each month for discretionary spend (dining out, travel, etc.).
Step 2: What can you Afford?
Calculate how much you can allocate to housing each month without putting your financial health at risk. The general rule of thumb is that your monthly household expenses (mortgage payment, property taxes, utilities, condo fees, etc.) and debt load (car loans, credit card payments, line of credit payments, etc.) should not exceed 40% of your gross monthly income (before income tax).
Step 3: What is your Net Worth?
Add up all the major assets you currently own (house, rental properties, land, vehicles, investments, retirement savings, etc.) and then subtract all your existing debts (mortgages, loans, lines of credit, credit cards, etc.). This will determine your net worth. Lenders will be more apt to lend you money if you have accumulated a good amount of equity.
Take into consideration how much money you have saved for your down payment. This is usually between 5% and 25% of the total price of the property. For a purchase price of $500,000 or less, the minimum down payment is 5%. A purchase over that amount requires a 5% down payment on the first $500,000 and a 10% down payment on the remaining portion.
Subtract from your down payment enough to cover other one-time expenses and closing costs:
- Home inspection (typically $400 – $750)
- Property survey, as needed
- Mortgage application and appraisal fee
- Insurance costs (home, property, mortgage loan default)
- Land transfer taxes (provincial and municipal if living in Toronto)
- Adjustments for prepaid property taxes and utilities
- Title insurance
- Legal fees (generally $1,000 – $2,000)
- HST (on new construction homes only)
- Moving expenses
It is also advisable to deduct monies for anticipated home improvements, major renovations, ongoing maintenance and unexpected repairs.
The remaining amount is how much you could put down on your new home, if you wish to use it all. The more cash you pay upfront, the less you will have to pay month-by-month on the mortgage and the lower your total interest costs will be.