What Is the 28/36 Rule in Mortgages?

The 28/36 rule helps determine how much of your income should ideally be allocated to housing expenses and overall debt. Specifically, the 28/36 rule suggests that no more than 28% of your gross monthly income should be spent on housing costs, which include your mortgage payment, property taxes, and insurance. Additionally, your total debt obligations, including housing costs, should not exceed 36% of your gross monthly income. By adhering to this rule, borrowers can ensure they maintain a healthy balance between their income and expenses, reducing the risk of financial strain.

Consider working with a financial advisor before you make major decisions like buying a house.

What Is the 28/36 Rule?

The 28/36 rule says that you shouldn’t spend more than 28% of your income on housing (known as the front-end ratio) and 36% of your income on total debt/housing payments (known as the back-end ratio). It’s a rule of thumb for determining how much debt you can afford to take on, as well as for deciding whether you can afford to buy a given house or rent an apartment.

While the 28/36 rule is generally discussed in terms of mortgage payments. It applies equally to rent payments, however, since in both cases this is a way of examining how much of your monthly income you have committed to third parties. In a nutshell, the rule boils down to this: If you have to spend more than 28% of your monthly income on a house or apartment, it is too expensive.

The 28/36 rule is based on pretax income. So, for example, say that you make $60,000 per year. This comes to $5,000 per month in pretax income. Under this rule, you should spend no more than $1,800 on combined debt and housing each month. So, say you rent an apartment that costs $1,200 per month. You could then budget up to a remaining $600 per month on all other debt servicing.

Readers should also note that when you buy a house, your monthly payments include escrowed insurance, tax payments and any homeowners association (HOA) fees in addition to mortgage and interest payments. This generally means that your monthly housing payments will be several hundred dollars higher than the mortgage on its own. Be sure to account for this as you make your 28/36 budget.

Finally, when making a 28/36 budget, only judge your income based on stable, regular payments. The purpose of this rule is to compare the money that you have committed (debt and housing payments) against the money that you can count on (income).

We don’t use other line items like utilities or food expenses because, even though they’re important, you have discretion over those bills in a way that you can’t control a mortgage or credit card payment. The same holds for the income side of this ledger. Don’t assess your ratios based on speculative or unstable forms of income. Doing that can get you into trouble quickly.

Applying the 28/36 Rule

The first place to start with the 28/36 rule is total debt. Applying this rule means that you don’t want to have more than 36% of your total pretax income dedicated to debt and housing. Beyond that, this rule can help you avoid becoming house-rich but cash-poor. One of the most important mistakes that new home buyers make is that they can sell themselves on the hype of their new home.

For some this might mean getting excited about the house that they want. Others might convince themselves that this house is an investment, and the costs will justify themselves over time. Others might simply miss the real costs, including ones that are not as obvious. No matter how you get there, this is known as being cost-burdened. It means that you’re stuck with unavoidable monthly costs that erode your ability to save, spend and live your daily life.

By limiting housing costs to 28% of your total income, you can help avoid having the cost of your house bite into your finances. This is particularly important for buyers. Renters who become cost-burdened can walk away at the end of their lease. Buyers who become cost-burdened, however, have to try and sell their house, which isn’t necessarily easy if they paid too much for it.

In addition, this is a rule applied by many lenders when they assess your creditworthiness. In addition to looking at your credit score, most lenders look at what’s known as the “debt-to-income” ratio. This means they look at how much debt you’re carrying relative to your pretax income. Many lenders will consider this ratio too high if your monthly debt payments exceed approximately one-third of your pretax monthly income.

It is also worth noting that this is a rule that many young people find difficult, if not impossible, to follow. Adults under the age of 40 average around $38,000 to $40,000 in student debt per household, with interest rates averaging around 6%. Particularly for graduates of professional schools, who can have payments well over $1,000 per month, this can often make it impossible to maintain a cash flow according to the 28/36 rule.

Tips for Buying a Home

Buying a home is a significant milestone and a major financial decision. Whether you’re a first-time homebuyer or looking to upgrade, understanding the process can help you make informed choices. Here are some essential tips to guide you through buying a home.

Assess your financial health: Before diving into the home-buying process, evaluate your financial situation. Review your credit score, savings, and monthly expenses to determine how much you can afford. This assessment will help you set a realistic budget and avoid overextending yourself financially.

Get pre-approved for a mortgage: Securing a mortgage pre-approval gives you a clear idea of your borrowing capacity and strengthens your position as a serious buyer. It involves a lender reviewing your financial information and providing a conditional commitment for a loan amount. This step can also expedite the buying process once you find the right home.

Research neighborhoods thoroughly: Location is crucial when buying a home, so take the time to research different neighborhoods. Consider factors like proximity to work, schools, amenities, and future development plans. Visiting neighborhoods at different times of the day can also provide insights into traffic patterns and noise levels.

Hire a reputable real estate agent: A knowledgeable real estate agent can be invaluable in navigating the home-buying process. They can provide market insights, negotiate on your behalf, and help you find properties that meet your criteria. Choose an agent with a strong track record and good reviews from past clients.

Buying a home is a complex process, but with careful planning and the right guidance, you can make a decision that suits your needs and budget. By following these tips, you’ll be better prepared to navigate the real estate market and find a home that you love.

Bottom Line

Adhering to the 28/36 rule can provide a solid foundation for financial stability, ensuring that you don’t overextend yourself and risk future financial strain. It also offers lenders a reliable framework to assess your creditworthiness, potentially improving your chances of mortgage approval. By keeping these percentages in mind, you can make informed decisions that align with your financial goals and lifestyle needs. Ultimately, the 28/36 rule is a valuable tool for maintaining a balanced budget and achieving long-term homeownership success.

Tips on Mortgages

Getting your cash flow and budgeting in order can be a challenge, but you don’t have to tackle it alone. A financial advisor can offer invaluable advice and insight. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Use our free mortgage calculator to apply the 28/36 rule before you buy a property.
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