The recommended maximum debt levels for homeowners have always sounded high to me. But this has been little more than a feeling until I looked over some old numbers from when I bought my first house. This exercise has confirmed for me that the maximum debt levels are alarmingly high.
According to the Canada Mortgage and Housing Corporation, housing costs (including mortgage payments, property taxes, and heating expenses) should not exceed 32% of your gross income. When other payments on such things as car loans, lines of credit, and credit cards are added in, the total should not exceed 40% of your gross income.
I agree that people shouldn’t exceed these levels, but how sensible is it to even come close to these percentages? I decided to compare these figures to my own experience buying my first house.
My wife and I had a 27% down payment, and although the mortgage amount looks small now, it was scary for us back then. We spent a little more on the house than we planned to (as many first-time home buyers do). The monthly mortgage payment seemed large, but we were confident that we could handle it.
Adding in property taxes and heating, our initial housing costs were 22% of our income. This put us well below the 32% limit. We had no other debts, and so we were at just over half of the overall 40% debt load limit.
Because we were very nervous about being in debt, we put on a full-court press to pay off the mortgage. For the first two and a half years we took advantage of all the extra payment features of our mortgage including extra amounts each month and a lump sum each year.
Over those first two and a half years, the total of our mortgage payments, extra payments, property taxes, and heating payments were almost exactly 40% of our income. This was the best we were able to do during a period with favourable conditions: we weren’t long out of school and were used to living frugally, and we didn’t have any children yet.
To have started out with payments adding up to 40% of income would have been madness. The slightest hiccup would have sent us off the rails. As it turned out, we couldn’t sustain the pace we had set once we had our first child. After that we reduced our mortgage payments to less than half of what we had been paying.
Prospective homeowners should seriously consider buying much less house than the experts say they can afford.