You want to buy a home, but you’re dealing with debt! Is homeownership a realistic goal in this situation, or should you cut your losses and wait for another time? While no one prefers to buy a home with debt, it’s not always avoidable. The good news is it’s also not necessarily impossible. In many cases, borrowers can buy a home with debt. With that in mind, there are still risks and things you need to understand before taking the plunge. If you’re seriously considering buying a home with debt, here are five things you should expect for this move.
#1 You may have a smaller mortgage
The mortgage amount you’re approved for depends on things like your income, expenses, credit score, and debt levels. If you have lots of debt already, lenders might take this to mean you’re a bigger risk for them, and are more likely to default on your mortgage. For this reason, lenders are likely to approve you for a smaller mortgage amount than you may have hoped for. This is meant to minimize the risk for them. Of course, this means you might need to budget for a smaller home if your financing will only cover a certain amount.
Alternatively, buying a home with debt might result in higher interest rates from the lender. If a lender is going to be flexible and approve you for a mortgage when you have debt, you should often expect to pay higher rates in return for these options.
#2 You may be house poor
You may have heard of the term house poor before. If you need a detailed refresher, you can check out our blog post on being house poor. For a quick recap, in its most basic form, being house poor means you’re spending more than 40 per cent of your monthly income on essential housing expenses, like mortgage payments and taxes. Buying a home beyond your means, or buying any home when you can’t afford it, are big causes of becoming house poor. If you have lots of debt when you buy a home, you might struggle to make your monthly payments if they become too much on top of your existing expenses. Being house poor can lead to defaulting on your mortgage or losing access to other things like your car or internet if you can’t make those payments.
#3 You can start building equity
Of course, it doesn’t have to be all doom and gloom to buy a home with debt. When you buy a home, this gives you a big opportunity to build home equity. The more money you put into your home, the more valuable it becomes. Start making mortgage payments to pay off your home and build equity on it. Down the line, you might also do renovations to increase your home’s value and build equity. Plus, things like market growth and high demand can add to your home’s value naturally. Building home equity means you own an asset that is increasingly valuable and can earn you money in the long run, such as if you sell, for example.
#4 It’s not uncommon
Buying a home with debt is becoming increasingly common. As property values increase and inflation makes everything more expensive, many people are already dealing with some form of debt when they get a mortgage for a home. Between credit cards, student loans, and car payments, it’s common for people to already have some loans to repay when they want to buy a home. That being said, remember you don’t need to buy a home by a certain age or point in your life. Just because you might be able to buy a home with debt doesn’t mean you have to do so. Do what’s best for your situation, even if that means holding off on buying a house for now!
#5 Debt service ratios matter
Lenders will look at two important debt service ratios when examining your mortgage application. First, we have the Gross Debt Service (GDS) ratio. It calculates how much of your income is used to pay for heating, property taxes, mortgage payments, and 50 per cent of your condo fees. Your GDS ratio shouldn’t be above 39 per cent of your total household income. Next is the Total Debt Service (TDS) ratio. This takes into account everything above, plus your debt repayments. This ratio shouldn’t be above 44 per cent of your household income. If you’re hoping to buy a home with debt, examine how much of your monthly income goes toward paying for that debt, plus hypothetical payments for your mortgage and taxes. Will it exceed that 44 per cent mark? If so, most A lenders may reject your mortgage application.
What are your next steps?
If you think you have too much debt to buy a home, how can you improve your situation? Get a handle on your debt by paying off high interest payments and keeping your credit card balance low. Create a budget for yourself to limit non essential spending. If you’re prepared to buy a home with debt, get in touch with a mortgage broker! Brokers can advise you on your down payment size, how to get the best product based on your situation, how to manage your debt, and how to appeal to lenders. Buying a home with debt is possible, but it requires careful planning and thought.
If you’re interested in buying a home, get in touch with me!