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Home Buying

High Savings "Diet" for the Down Payment

It’s time to get fit on your finances and beat other buyers on the race to homeownership

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On another post, we talked about the maximum you can afford, but today we’ll translate that information into a savings goal that will require discipline to go on a financial diet.

Take your current annual household income before taxes. Let’s call that number an “X”. Your goal is this:

You’ll buy a home by giving 1x as down payment, borrow 4x from a bank, for a total of 5x.

For example: Rosa is an accountant with a salary averaging $50,000 a year in Seattle, WA. She’s married to Jacob who works as an automotive technician making $40,000. They currently rent an apartment south of Downtown near the stadiums – 2 beds, 1 bath, 732 sqft for $2,650 a month.

In this example, Rosa & Jacob’s goal is to save 1x ($90,000) for down payment, borrow 4x ($360,000) and buy a 5x ($450,000) home. Using our calculator, the exact maximum is $432,753, but that’s ok. When you are saving, you should overestimate a little bit because unforeseen costs might appear. Life happens.

Hopefully, this 1x goal helps you put this in perspective: how much you save will directly affect your speed to buy. Saving 1/4 of 1x? It will take 4 years; saving 1/10 of 1x? It will take 10 years; and so on.

Start with the most expensive categories and work your way down. Your current top 1 spending category is probably “Housing”. Number 2 is probably “Taxes”, followed by “Transportation”, “Food”, “Healthcare”. Everything beyond these should be smaller and smaller. You are going to have to create a high-priority category: “Savings”, and it will take number 2 on that list. The idea is change from “spend first, then you get to save what remains” mentality to “save first, then you get to spend what remains”.

Your spending on a high-savings diet would look somewhat like this: Rent/Housing = 25%. Savings = 25%. Effective taxes = 17.5%. Transportation = 10%. Food = 7.5%. Healthcare = 5%. Everything else = 10%.

Back to our example: Rosa & Jacob are currently spending 35% of their income on rent. Many apartment companies will let them sign a lease at 30%, 40% or even 50% ratio, but it’s too hard for them to save when such a big slice of the pie is sunk on a single category. They look around and find these options: (A) smaller 2 bed, 1 bath, 635 sqft apartment for $1,900 on First Hill; (B) 2 bed, 1 bath, 890 sqft apartment on an older building for $1,795, close to where they already live.

Between those two choices, it’s up to them to decide (for a $1,875 budget). Notice that their rent payment right now should be less than their housing costs once they buy a home. That creates room to save.

Saving on rent can be a double-edged sword: if you live too far from where you work, you’ll end up “paying it back” as higher transportation costs, time lost commuting, etc. Aim for a balance, and remember this: the time you spend to make better choices is time well spent. Invest on your apartment hunt.

You don’t have to truly buy a home following the 1x-4x-5x goal, this is just to help you put things in scale to visualize your potential saving rate. Maybe you end up buying something less expensive, maybe you end up putting a different percentage in down payment, or buy a little earlier or a little later. But, if you follow a goal like this, you should be in a better position when the time comes for your big purchase, no matter what you decide to do.

NEXT: Part 3: What if I lower my down payment?

 

 

Ricardo Oliveira

Written by Ricardo Oliveira

Ricardo is a software engineer at Faira (and also the first employee!)

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