Dave Ramsey, well-known radio talk show host and founder of Ramsey Solutions, is offering some advice on homeownership.
For those who don’t know, Ramsey has been warning his followers for decades not to get into debt. He’s a staunch advocate for using cash only for purchases and being incredibly mindful of buying only what you can afford.
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He does make a slight exception for buying a house, however, and this is most likely because, if you can keep the mortgage payment low enough, it’s worth taking on this debt because it does become an investment. Plus, you’d be paying that money toward rent if it wasn’t going toward a mortgage, so you’re not spending money you could be saving anyway.
To that end, here’s how Ramsey explains his philosophy when it comes to buying a house:
First: It’s Better Not To Borrow
The most important note Ramsey wants to make sure we understand is that he’d prefer we don’t borrow at all.
Most of Ramsey’s followers will understand that he grew up blue-collar and built a wealth portfolio of up to $4 million by the time he was 26 through traditional means of buying real estate and investing. Sadly, however, this traditional method involves a lot of borrowing, which resulted in Ramsey becoming overleveraged and unable to pay his loans to the banks.
In 1986, he filed for bankruptcy, and he has been advising people on how to avoid this kind of financial disaster ever since. The foundation of his teaching is to stay out of debt.
Yes, even when it comes to buying a home. Why?
Because when push comes to shove, if you have debts you cannot pay off, you may end up broke and in financial ruin, just like Dave.
In an ideal world, you would save up enough money to buy a home outright. But very few of us live in that ideal world, especially as housing prices continue to climb.
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Second: If You Must Borrow, Keep It Low
So, as Ramsey said, if you must borrow, and most of us must, your goal should be to keep the mortgage below one-fourth of your take-home pay. That means if you bring home $4,000 each month, your mortgage should be no higher than $1,000.
It may sound crazy to some, but this approach ensures you’ll still have plenty of money to save for emergencies, spend on household needs like groceries, gas and basic necessities, and invest.
In order to get your mortgage this low, you’ll need to think outside of the box. The average monthly mortgage payment in the United States is around $2,200, which means you’ll need to bring home at least $8,800.
Or, you could save up for longer and put down a larger down payment. You may also want to look into fixer-uppers that sit on the market for longer, which often makes them cheaper. If you can live in the house while you fix it up, you can more likely afford the mortgage and the repairs you can make over time.
Another option is to move to a less expensive area, especially if you can work from home and keep a higher income from a more expensive area.
The goal, always, is to ensure you don’t become overleveraged and have “too much house.” This puts you in a position to potentially lose that house if you lose your job or some other catastrophe strikes.
Third: Pay It Off Fast
Finally, Dave doesn’t just want your mortgage payment low. He also wants you to pay it off fast.
So, not only should you borrow at one-fourth of your take-home pay, but you should also have a 15-year mortgage. What this means for most people is that the $1,000 mortgage payment gets you a lot less house than you might think.
Why?
Because a traditional mortgage is 30 years, and a $1,000 monthly payment, at around 5%, would hover somewhere around the $200,000 loan mark. But at 15 years, you’re looking at closer to $150,000 — if not closer to $100,000 — because you’re paying it off in half the time most people do.
In this case, you’ll need to find a nice, small house in an affordable area and save up enough to put a hefty down payment on the mortgage. Then, you can afford to make the monthly payment on time, pay off the house in 15 years, or sooner if you can afford to add a bit more to the payment each month, and be financially free and have an investment.
This scenario would be a winning one, according to Ramsey. Then, if you like, you can sell the home you’ve paid off and buy a larger home you can afford.
The keyword here is “afford.”
So, How Much Home Can You Afford?
In the end, how much home you can afford, according to Ramsey, will be based on your income.
If you can buy a house outright, that’s the best option. If not, take your total take-home pay and divide it by 4. That’s the mortgage payment you can afford.
From there, you’ll need to figure out the total mortgage price, including interest, property taxes and homeowners insurance, at a 15-year mortgage that will get you that mortgage payment you can afford.
It will be challenging, but if you’re willing to think outside the box and get creative, it’s possible!
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This article originally appeared on GOBankingRates.com: Dave Ramsey: This Is the Most You Should Borrow When Buying a House
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