It seems with current real estate values and interest rates, becoming “house poor” is relatively common. 1 in 4 current homeowners meet the definition, which is owing more than 30% of your gross income toward housing costs. Of course, 1 in 3 homes are mortgage free which means the chances are good that your mortgage has taken a big bite from your finances if you have one. Particularly if it’s recent.

It didn’t used to be this way. In the not-so-distant past banks were very wary of lending money for more house than you could afford. That changed in the 1990s and came to full fruition in the debacle of 2008, when anyone who could fog a mirror could borrow money for a house. 

Lending standards aren’t nearly as lax as they were in the run up to the global financial crash, but they are still considerably more liberal than they were in the 1970s or 1980s. In the current era, banks are more than willing to let you get out over your skis and take on far more house than is advisable. I’ve talked to several families with housing costs eating up 40% or more of their gross income. While they are making it work, it’s simply a matter of time until something inevitable happens to make life untenable.

If you’re going to protect yourself, it will be up to you. The bank’s sole concern is you repaying your loan. They don’t care if you eat ramen noodles on a card table or delay retirement and work until you’re 75. That doesn’t figure into their math at all, most banks will lend generously for a house because they know if they don’t, some other bank will. Take it from someone who once upon a time bit off more house than they could chew, a bank will gladly loan you more on a house than you should feasibly borrow. That’s where the 30/30/3 rule comes in- a more realistic measure of housing affordability than your bank’s qualification. 

30% of your gross income. You simply don’t want more than 30% of your income going to housing costs. While you might make it work for a while, there isn’t enough left for the rest of your life to happen. You need more out of life than a place to live. You’ll need savings, transportation, and a little fun too. 30% of your income should be your absolute maximum and include all facets of your housing costs- taxes, insurance, and HOA fees. You could be conservative and put utilities in there too. Less is better here if you have aggressive savings goals or substantial non-mortgage debts.

30% of the home’s price in cash. You’ll want to have a healthy down payment of at least 20% to avoid PMI but you’ll need more funds as well for closing costs and a cash buffer. Unlike renting, owning means all of the repairs are on you and some of them can be very expensive. Price a roof or a new furnace and having a slush fund of 10% of your home price doesn’t seem outrageous any longer. Additionally, if you have 10% in cash you can ride out a substantial interruption to your income without placing your home in jeopardy. 

3x your annual income is the maximum price you should pay for a home. Yes. Even in a high cost of living area. While you can certainly get more house than that, it isn’t advisable. More house always comes with more bills, more taxes, and more repairs. A large part of home ownership are phantom costs. For instance, repairing the furnace in a $400,000 home will be more expensive than repairing a furnace in $200,000 home and “seasonal décor” can take on a life of its own in some nicer neighborhoods. 3x your income will protect you from having a reach that will exceed your grasp. You can be conservative and average your last 5 years of income to be on the safe side and keep an outlier year from upping your budget.

Taken together, this is the 30/30/3 Rule and if you can’t meet all three criteria, you need to keep shopping or keep saving to prevent your home from owning you rather than you owning your home. Most new homeowners are surprised by the ever-varying costs that home ownership throws at you and most home shoppers consistently shop for a house that is 30-50% more expensive than they can really afford. While you are unlikely to default, you will shortchange other facets of your financial life and take on oversize risks in the process.

While I would like to be firm, there are a couple of exceptions worth noting. You can likely up the 30% of your income to 40% if you’re living in an urban area that alleviates you from needing a car and simply spend money you would otherwise spend on a car on your home instead. This is rare in the United States outside of a few major metros so be honest with yourself. 

You can likewise up the 3x your income to 4x if you are in a profession where you will see a near term and nearly guaranteed increase in income. New physicians and attorneys come to mind, both experience dramatic spikes in income during the first couple of years of employment as a normal rule. Again, this requires a dead honest look in the mirror since this would be rarer than not. Do research about what your profession pays to really get a feel for any dramatic pay bumps you could anticipate and remember that shopping under your budget is much preferable to shopping over it.

While homes are expensive in the current market, the concept of home ownership has a strong emotional pull. I understand that. But I also understand that the only thing worse than renting is owning far more house than your budget can stand. It’s miserable to hang out in a lovely home that bleeds you dry from one month to the next, knowing that it will continue for 30 more years.