What percentage of your income should go towards a mortgage?

[UNITED STATES] For prospective homebuyers, one question looms large: How much house can I afford? The answer hinges on a variety of personal financial factors and the mortgage terms available to you.

With home prices continuing to climb and interest rates remaining volatile, affordability has become an increasingly critical concern. Data from the National Association of Realtors shows that the median U.S. home price rose to $416,100 in 2024, up from $383,900 the previous year. Coupled with mortgage rates hovering around 6%, these conditions are prompting buyers to reassess budgets and seek alternative financing strategies.

What Portion of Your Income Should Go Toward a Mortgage?

A commonly used metric to gauge mortgage affordability is the 28/36 rule. Lenders generally recommend that no more than 28% of your gross monthly income be allocated to housing costs, and no more than 36% to total debt obligations, including your mortgage, credit cards, and other loans.

Breaking Down the Mortgage Payment

Mortgage payments typically consist of four key components:

Principal: This is the initial loan amount borrowed. For instance, if you take out a $200,000 mortgage, the principal is $200,000. Each payment reduces this amount incrementally.

Interest: Charged by the lender, interest is a percentage of your loan. Higher interest rates mean higher monthly payments.

Taxes: Property taxes are often included in your monthly mortgage payment and held in an escrow account by the lender.

Insurance: Lenders usually require homeowners insurance, and in cases where the down payment is less than 20%, private mortgage insurance (PMI) may also be added to the monthly cost.

These additional expenses—property taxes and insurance—can vary significantly by location. States like New Jersey and Texas often have higher property tax rates, while areas prone to natural disasters may face steeper insurance premiums. Understanding these regional variances is vital when budgeting for a home.

The 28/36 Rule Explained

This guideline remains a standard in mortgage lending. Under the rule, housing costs shouldn’t exceed 28% of your gross income, and total debt payments should remain below 36%. However, some lenders offer more flexible terms, particularly for borrowers with strong credit histories or those applying for government-backed loans. For example, FHA loans may permit debt-to-income (DTI) ratios up to 50%, though this usually requires closer scrutiny of other financial indicators.

What Affects How Much You Can Afford?

Several critical elements determine your mortgage affordability:

Income and Stability

Lenders want to see not only sufficient income to repay the loan but also a consistent income history, typically over a two-year period.

Debt-to-Income Ratio (DTI)

DTI measures the percentage of your gross income used to pay off debt. While lenders prefer a DTI under 36%, some are willing to consider ratios up to 43% or higher.

Interest Rates

Interest rates significantly influence monthly payments. As of September 24, 2024, the average 30-year fixed mortgage rate stood at 6.12%, according to Investopedia. Borrowers with higher credit scores may qualify for lower rates.

Down Payment

The initial amount paid upfront impacts both the loan size and long-term borrowing costs. Though 20% down was once standard, first-time buyers in 2022 averaged just 6%. Smaller down payments can ease entry into the market but may lead to higher monthly obligations.

Estimating Mortgage Affordability

To determine what you can afford, consider:

Home price: What’s your target price range?

Down payment: How much have you saved?

Loan term: 30-year loans typically offer lower payments, though cost more in interest over time.

Interest rate: Based on your credit profile or prequalification estimates.

Taxes and insurance: These vary by region and must be factored in.

Income: Does your income support the estimated monthly payment under the 28/36 rule?

If your estimated payments exceed these guidelines, you may face stricter lending terms or higher rates.

Additional Homeownership Costs

Beyond the mortgage, homeownership comes with ongoing expenses:

Maintenance

Set aside 1% to 4% of your home’s value annually for upkeep and repairs—essential for protecting your investment.

Property Taxes and Insurance

If your lender doesn’t escrow taxes and insurance, you’ll need to budget for these costs separately.

Lifestyle and Financial Priorities

Owning a home is a major financial milestone, but it shouldn't derail other goals. Consider how a mortgage may impact travel, savings, or retirement plans.

Preparing for Financial Changes

If you anticipate a future change in income or expenses, it’s wise to factor this into your affordability analysis. You may need to scale back your budget or seek additional income sources.

Refinancing may reduce your interest rate and monthly payment. The Consumer Financial Protection Bureau offers resources on determining whether this option is right for you.

Buying a home is a significant financial decision. Understanding your mortgage affordability involves more than just looking at loan amounts—it requires a full picture of your income, debts, and long-term goals. Consulting a financial advisor can help ensure your home purchase aligns with your broader financial plan.