By Jessica Thiefels
Buying a home will likely be one of the biggest financial transactions you make, and preparing your budget beforehand makes the home buying process much less stressful. The following tips and expert insight can help you get your budget in order before you make the big transaction.
1. Organize Your Finances
You may know how much you have in your checking and savings accounts, but do you know how much you spend on household expenses each month? Or how much high-interest and credit card debt you have? It's important to get a clear idea of where your money goes in order to figure out what you can afford and what your home buying timeline looks like. Personal finance experts at OnStridesuggest breaking down your finances into the following categories:
- Level 1: Basic Budgeting: Basic financial needs, like rent, groceries and gas.
- Level 2: Emergency Funds: In case of an accident or other costly event.
- Level 3: Passive Preparation: 401K or IRA plans that you manage yourself.
- Level 4: High-Interest Debts: Anything with an interest rate of 10 percent or more.
- Level 5: Long-Term Savings: Money you've already put away for your home, or have been saving otherwise. (Note this is different than your emergency fund – if you don't have a savings outside of your emergency fund, separate them now.)
- Level 6: The Leftovers: Is there still money floating around in your account? Determine how you'll best use this to prepare for home buying – play the market, put it in a high-yield savings account, etc.
With your finances categorized and organized, you can start to set goals for how much you need to save, and for how long, in addition to where you need to cut back.
2. Do the Math
Before you set any home-buying goals, do the math to figure out how much you can afford. This will also dictate how much you need to save. Dave Ramsey shares five steps to figure this out:
- Add up your income
- List household expenses (If you organized your finances above, then this step is already done!)
- Calculate home ownership costs (Check out this list from US News)
- Give your budget room to grow: "Life is going to happen in the years you occupy your home. Before you get married to a mortgage, look ahead and consider events that might increase your living expenses down the road."
- Make adjustments: Cut back here, save more here, etc. (See the next section)
3. Set Goals
While the overarching goal is to buy a home, setting smaller goals will help you stay on track and feel successful while you make your way there.
As you set goals, remember that you don't need to be solely focused on saving. You may want to set goals for cutting back on spending as well. Here are a few to consider:
- Save $1,000 in 3 months
- Switch to a cheaper gym
- Cancel my cable bill by the summer
- Go out to eat just once each week
- Buy one less coffee weekly this month
4. Write Your Budget
The math has been done, goals have been set and now it's time to write your monthly budget, which should take into account:
- Total to be saved each month
- Life expenses
- Any unusual expenses for the month
In the end, you'll have a total spend for life expenses and a total amount to be saved by month's end. You can use a spreadsheet and do this by hand, or download one of these budgeting apps.
5. Update Weekly; Reassess Regularly
The final step is holding yourself accountable to your goals and regular updates of the budget. If you make a purchase that wasn't planned for, add it to your budget and readjust how much you'll be able to save that month.
Remember that a budget is fluid, and there are many "life things" that will come up and throw it off. That's okay, as long as you stay focused on the goals you've set for yourself. If you go over budget one week, reel it in the following so you can stay on track for the month.
As a homeowner, there are dozens of expensive problems that could arise. Get into a habit of budgeting now so you're prepared for these financial challenges when they inevitably pop up.