Dubai: When that home loan payment is due each month, are you scrambling to get the funds together? Have you been late on payments or skipped them altogether? Chances are, you've taken on too much house.
While owning a house can bring you a sense of security, and it's most often a wise decision to invest in one, a lot of times your house can turn out to be a problem for you, particularly when it comes to the state of your finances.
“Many of us often purchase a home, but ultimately end up realising that it’s too costly for us to sustain,” Dubai-based wealth advisor Mohammad Shaan. “We pursue our ‘dream home’ only to find the costs of ownership and maintenance are preventing us from achieving other goals.”
Let's examine the signs that your house may be holding you back and slowing you down from financially advancing towards your goals:
Sign #1: Home payments currently take up you more than 30 percent of your income
When it comes to setting aside a fixed amount of your income to housing costs, you could end up over budgeting. It’s widely recommended that you spend no more than 30 percent of your income on housing-related costs, be it either if you’re renting or owning one.
“While the 30 per cent budgeting threshold is not a requirement, as your income may permit you to afford more, it's a good rule of thumb. It’s likely that once you pass that 30 per cent threshold, you may find it hard to make your housing payments and cover other general expenses,” added Shaan.
Sign #2: You're paying down home loan, but payments are barely affecting the ‘principal’
One of the major advantages of owning a home is the ability to build ‘home equity’, i.e. the value of a homeowner's financial stake in a home, over time. And with most home loans, homeowners can only do that if they can pay off the interest and begin paying down the ‘principal’ amount.
Home equity or a homeowner's financial stake in a home can increase over time if the property value increases or as you pay down the mortgage loan balance, particularly the principal amount. It increases the amount of money you have in your home that you may be able to use now or later.
However, with that in mind, Shaan advises being cautious of the fact that a large mortgage loan with unfavourable terms could mean that you are paying mostly interest and very little principal.
“Some home loans, such as interest-only loans, can leave a homeowner with little to no equity, while ending up owing more than the home is worth. This is hard to get out of, but if you can refinance it into a fixed-rate loan, the house will be less of a financial burden over time,” added Shaan.
When buying real estate can be a bad move
Although owning a home can have many benefits, if you’re not financially ready, it can hurt you just as much. For example, if you stretch your budget or drain your savings to buy a home and then find yourself unable to make payments, this can impact your financial health for many years to come.
“Borrowers buy a home well within their budget. Dual-income earners may consider getting a home loan that would still be affordable under one income. This gives you room in your budget in an extreme circumstance,” said Abu Dhabi-based Prakash Bhat, a real estate and mortgage consultant.
While it doesn’t make financial sense to purchase a home if you have very little extra in disposable income, there are other factors that can deter you from buying a home. So, before you find yourself in a house you cannot afford, here are some other costs you will affect your decision.
“When planning to buy a home, you must factor in your mortgage, insurance, utilities, and maintenance of the house. Moreover, if you tend to move around often, owning a home can equate to spending a lot of money (on broker’s fees and closing costs) that you don’t have to,” Bhat added.
Many of us often purchase a home, but ultimately end up realising that it’s too costly for us to sustain
If you find yourself spending a large proportion of your total income to pay down a loan made against your home, while ending up short of cash and having trouble meeting other financial obligations, here’s what experts suggest you should do.
“If your household’s gross annual income is Dh160,000, you shouldn’t take out a home loan that’s more than Dh480,000 (three times of your annual income). You need to then understand how much you’re comfortable spending on housing expenses every month,” said Bhat.
“Knowing what price you can afford on a home will help you know what your monthly expenses would be if you had to pay for that home loan. Keep in mind that even if you qualify for a large mortgage, you don’t want to be in a position where every little expense is difficult to pay for.”
Also, make sure you have at least a year of whatever your recurring monthly payments would be in reserve and aim to keep your debt under 30 per cent of your total income. Then set a reasonable budget for the purchase price of a home.
The bottom line is that if it's going to cost you all your savings just to acquire the house, you may not be ready for that specific home. You may have to then think of going for a smaller home or postponing your decision of buying a home until your savings well outgrows your purchase costs.