Buying a home is a major milestone that puts you on the path to building equity.
But if you’re not careful, you could get in over your head and buy a house that you can’t afford.
Mortgage lenders allow borrowers to spend between 28 percent and 31 percent of their gross monthly income on a mortgage payment.
Your lender will ask for your W-2s, tax returns, and recent paycheck stubs to determine affordability.
They’ll also review your credit report to get an idea of your current debt load.
But even if a mortgage lender says you can afford a particular amount, what you can actually afford might be less.
This is because lenders don’t take into account how much you pay for certain expenses like health insurance, daycare, transportation, groceries, etc.
And after moving into a new home, you may realize that the monthly payment is more than you can realistically handle.
Signs That You Can’t Afford Your House
Many people experience a financial hardship as some point.
And sometimes, their mortgage payment becomes a burden.
Not to say you should sell at the first indication of hardship, but there are telltale signs that you can no longer afford your home:
1. Borrowing from Peter to pay Paul
If you never have enough income for fixed monthly expenses, you might use funds earmarked for utilities or insurance to pay your mortgage payment and so on.
If this cycle continues month after month, moving into a cheaper home might solve your financial worries.
2. You pay your mortgage late
Your mortgage is due on the first of each month, but your mortgage lender might allow a grace period and not charge a late fee until after the 15th of the month.
If the 15th comes and goes and you still don’t have enough cash for your mortgage payment, chances are that you’re spending too much of your income on the home.
3. All of your money goes to your mortgage
Being house poor means that the majority of your monthly income goes toward your mortgage payment.
And as a result, there’s little left for anything else.
This can include entertainment, home repairs, saving, retirement, etc.
4. You dip into your savings every month
Taking money from savings every month to cover your mortgage payment is another sign that you’re spending more than you can afford.
Continuing on this path will drain your savings account and deplete your safety net.
Options When You Can’t Afford Your Payment
Defaulting on your mortgage damages your credit score and puts you at risk for foreclosure.
But with quick action, you might avoid this traumatizing experience.
Speak with a real estate agent
Selling the home before you miss a home loan payment helps protect your credit rating.
Consult a real estate agent to discuss your options.
If you’ve recently purchased the home, keep in mind that selling could result in losing money.
More so if you haven’t built enough equity.
You’ll pay about 6 percent in realtor commissions.
Let’s say you paid $200,000 for the property six months ago and financed $190,000 after a 5 percent down payment. If the home hasn’t appreciated in value, this gives you about $10,000 in equity.
It's not bad...
Until you calculate that you’ll spend about $12,000 in realtor commissions if you sell the home for $200,000.
In other words, you’ll lose the $10,000 you put down, plus spend an extra $2,000.
In such a scenario, using a realtor might not be feasible.
But you might consider a For Sale By Owner (FSBO) if you’re serious about selling the property.
You’ll be responsible for marketing and showing the home to prospective buyers.
Even so, not paying a commission allows you to walk away with more cash.
Ask about refinancing or loan modification
You might be able to refinance your mortgage and qualify for a lower interest rate.
This can possibly reduce your monthly payment.
Refinancing does create a new mortgage loan, so you’ll have to re-qualify for the home loan and pay closing costs again.
For refinancing to work, your new mortgage interest rate should be less than what you’re currently paying.
Speak with a mortgage lender and they’ll crunch the numbers to determine how much you can save by refinancing.
If refinancing isn’t an option — maybe because you’re already behind on payments — you might meet the qualifications for a mortgage modification.
The best part:
This agreement changes the original terms of your mortgage without refinancing.
A modification can result in a lower interest rate. Or your lender might lower your payment to an affordable amount. Either outcome helps you keep the home.
You’ll have to apply for a modification.
And this arrangement is only extended to people who can prove a financial hardship or risk foreclosure.
Find a renter to split the expense
Renting out a spare bedroom or basement apartment is another way to generate extra income for your mortgage payment.
This arrangement only works when you have the extra space, and it might be better suited for a single person or a couple.
Be mindful that you’re also giving up your privacy.
On the upside:
This living situation is often better than damaging your credit with late payments or a home foreclosure.
A foreclosure remains on your credit report for up to seven years.
You can also look into moving out of the home and finding a tenant if you’re unable to sell and can’t qualify for refinancing.
Inquire about a short sale
If home prices have declined and you’re unable to sell for what you owe, talk to your lender to see if you’re eligible for a short sale.
A short sale allows you to sell the property for less than you owe.
This might be an option if you’re experiencing economic hardship. Or if you’re already behind on your mortgage payment.
Ask about a deed in lieu of foreclosure
With his provision, you voluntarily give your mortgage lender ownership of the property.
You’re released from the mortgage payment.
This also eliminates the mortgage debt, helping you avoid the damaging effects of a foreclosure.
Depending on your home loan lender, you may need to vacate the home immediately once you’re approved.
Sometimes, however, lenders allow borrowers to remain in the house for up to three months with no payments. This gives them time to find other living arrangements.
Get temporary relief with forbearance
Then again, maybe your hardship is short-term. If so, talk to your lender about a home loan forbearance.
This provision provides temporary payment relief. Your mortgage lender may suspend payments or reduce your monthly payment for a certain length of time.
This can work if you’re unable to work temporarily because of an injury, illness, or other personal reasons.
Tips to Overcome Mortgage Hardship
If you need mortgage help, speak up sooner rather than later.
Some people hide or ignore their mortgage lender when behind on their payment. But this only worsens the situation. Your lender can’t help if they don’t know your situation.
The fact is:
Foreclosures are costly for mortgage lenders.
And in most cases, banks are willing to work with borrowers to help them keep their home. So put aside your feelings of embarrassment and humiliation.
Speak with your lender’s hardship department and explain your situation.
Qualifying for mortgage relief often requires proof of a hardship. So be prepared to disclose your current income and debt, and you’ll likely need to write a hardship letter.
In the event of a foreclosure, deed in lieu of foreclosure, or a short sale, understand that it is possible to buy again.
Although you might have to wait two to seven years depending on your circumstances.
To qualify for another mortgage, use this time to rebuild your credit score.
Pay your other bills on time each month and keep debt to a minimum. Also, build a savings account.
This can serve as a fund for your future down payment and closing costs. And provide you with a cash reserve after a home purchase.
As a general rule of thumb, you should never spend every cent you have on a home purchase.
Prepare for the unexpected and keep cash in a safety net for repairs or loss of income (injury, illness, or job loss).
Final Word: What You Shouldn’t Do
Being unable to afford your mortgage is a scary situation.
Some people go into panic mode and think the worst.
But it’s important to stay calm in the situation. Fear could trigger unwise decisions.
For example, it isn’t wise to use a cash advance or a payday loan to pay your mortgage, nor should you pay your mortgage with a credit card. Yes, these options will put cash in your hand. But they also involve an expense.
You’ll not only pay interest to your mortgage lender, you’ll also pay interest to your credit card company or a cash advance lender.
You’re essentially digging a deeper hole for yourself.
Therefore, remain calm, speak with your mortgage lender, and then decide the best course of action.