We have different expenses to worry about in our daily lives.
However, most of us don’t put much attention into what we are spending money on and how much we are putting toward those things.
While you think it’s wise to pile up expenses related to necessary things, it might also be what puts you into a state of financial crisis.
One of those is being house poor. However, this isn’t permanent.
As long as you organize your finances and straighten your priorities, you’re sure to be closer to being cash rich instead.
What Does House Poor Mean?
There is a term called “house poor” that is used to describe a person who spends most of their total income on expenses involving their home. This usually includes things such as mortgage payments, property taxes and insurance, maintenance, utilities, and others.
Because of these said expenses, people who are house poor tend to have trouble with other financial priorities, like paying off other debts or purchasing other items.
Someone is considered house poor when they spend much more on homeownership than needed, which can occur for a number of reasons.
For example, they miscalculated their monthly budget or the total costs of their expenses, or they experienced a major change in their job, which affected their income.
When situations like this happen, it can be overwhelming for the homeowner because they may already have a fixed budget to spend on the home.
What It Means to Be House Rich
Being house rich revolves around the amount of money you spend on your home or aspects that involve it. Whether it’s an expense made directly for the home, like a mortgage, or in connection to it, like utilities.
If you are defined as house rich, this is because most of your equity has been put toward your home instead of other liquid assets.
This puts you in a situation where it is hard for you to spend on other discretionary items as well as other long term payments.
When you are house rich, it becomes harder for you to face smaller financial problems. Instead of the issue being one that you can easily cover, it turns into a much larger situation affecting your finances.
Say a family member has gotten sick and would need to be hospitalized for a few days. If you’re house rich, it would be hard for you to pay off these medical bills because you don’t have enough money on hand to pay for it.
Another example is if your home needs to undergo a huge repair that will cost more than you anticipate. Because you’re short on cash, you wouldn’t be able to have the repair done.
Being house rich can also affect the quality of your life. Because too much of your attention has been put toward your home, other important aspects have been set aside.
The following are further indicators to help you identify whether you are qualified as house rich:
- Paying off your monthly mortgage payment is a worrisome task for you.
- To cover your monthly payments in full, you frequently resort to using your savings.
- You either have no emergency fund prepared or not enough extra money to put toward building it.
- You cannot afford to build your retirement funds because all the money you earn goes toward different payments.
- There are other goals you want to achieve but are hindered from doing because of the expenses you are currently making.
What Is the Percentage of Income to Not Be House Poor?
Only a certain percentage of your income should be put toward your home in order to avoid being house poor. According to experts, approximately 25% of your net income should go toward home-related expenses.
If you have no additional debts to pay or few expenses to make, you can put as much as 30% of your pay into homeownership.
However, when paying off a mortgage, your payments should not exceed 28% to 33% of your net income.
What Is the 28/36 Rule of Being House Poor?
The common rule when calculating the amount of debt you should have is known as the “28/36 Rule” wherein a maximum of 28% of your gross monthly income goes to housing expenses and no more than 36% should go toward debt.
This is one way for lenders to identify how much they can offer to a borrower because those who go over these percentages are more likely to have difficulty regularly paying off the loan.
Lenders usually assess different aspects when an individual applies for a loan. This includes credit score, income, debt-to-income ratios, and even make use of the 28/36 rule to guide them in making decisions.
In being house poor, the 28/36 rule is an important consideration because it helps you avoid going overboard with your house-related expenses.
By keeping track of this, it can have a positive effect on your qualification for a loan as well as you’re financial situation.
One way to identify this is by viewing your expenses and income side by side.
For example, if you are expected to pay a total of $2,100 toward your home every month, your gross monthly income should be at least $7,500 to maintain a front-end ratio of 28%.
If you have other debts totaling an amount of $1,500 a month, you should be earning a gross monthly income of at least $4,200 to cover only 36% of your pay for these back-end payments.
Ways to Prevent Being House Poor
Before you fall too deep in a financial crisis, it’s best to avoid being house poor as soon as you can. For some people, it might not be too long until they reach this status.
Here are tips you can follow to maintain your current financial state:
Start a Budget to Not Over Spend
One of the best ways to stay on track is by sticking to a budget. By doing so, you can keep yourself from overspending in a month.
When setting a budget, it should be enough to cover utilities, major monthly payments, and discretionary items such as food.
Another benefit of having a monthly budget set is that building emergency funds, putting money toward savings, or making additional payments for other debts will be an easier task because of the extra you will be able to put away.
Buy a House You Can Afford
The main cause of being house poor starts with the property’s value. If the home is too expensive for you to pay off later, then it might not be the right home for you.
You may think you can easily put away money toward paying off the home. However, this can cause you more problems in the future, which may put you into debt or a bad financial state.
When choosing which property to purchase, be sure the cost is within your limits or less. As much as possible, focus on the homes that are within your budget range rather than a property that’s a few hundred or thousand higher than your budget.
Save 10% of Your Income Every Month
It’s a general recommendation to put at least 10% of your monthly income to your savings. But most people overlook the necessity of having savings stashed away because they don’t understand the importance.
Your savings will serve as a cushion for when you get into a financial crisis. They can go toward various things, depending on the demands of your priorities. It can be put away for an emergency fund, paying off debt, and the like.
An example where savings play a great role is when an accident comes up, and you need to pay for high medical bills or when your home requires a major repair done.
Instead of taking out cash from the money to be used for important payments, you can use what you’ve already saved up, which is specifically for these purposes.
Use the Money You Save to Invest and Make You More Money
Depending on your financial state, you may be capable of putting money toward investments. Through this, you will be able to make more money without having to work for it.
The money that you earn from an investment can be put toward paying off other debts, or it can help you increase your income, giving you more room for other payments.
However, take note that investments don’t grow overnight. It’s a long process, which means you cannot casually take out your investments.
Another is that there are ups and downs. Prepare yourself to witness these by learning more about investments before you actually start one.
An investment is a decision you should give a lot of thought, especially because this can cause more problems if your timing is off.
It’s also important to remember that the money you put toward an investment should be an amount that will still keep you comfortable with paying other expenses.
This is why professionals recommend saving up money solely for the purpose of investing to prevent situations where money is needed badly but has been put toward other things.
Buy an Investment Property to Rent to Tenants
A rental property is one of the best investments you can have. With an investment property, you won’t have to worry too much about the mortgage.
This is because the rental fees your tenants will be paying cover the monthly mortgage payments needed for the property.
For example, let’s say you already have a tenant who pays $1,400 every month. The rental property needs a monthly mortgage payment of $900, and around $200 goes toward utilities and maintenance of the property.
The extra $300 that you receive from the tenant is what you keep every month. If they rent the property for a year, then you make $3,600.
The money that you earn from this can be used for further debts that you need to pay or simply put away into your savings.
Stick to Your Budget
Not everyone will be capable of purchasing a property or putting money away for other purposes. If this is the situation you are dealing with, it’s best to start by simply sticking to your budget.
This won’t involve any schemes to get rich or build extra funds. However, it can help you release yourself from the financial crisis you are in.
While increasing your income sounds like a more appealing method, this won’t be effective if you fail to move from the situation you’re in.
Think about this: if you’re going through a tough time financially, the best option is to strictly follow your monthly budget. The longer you follow this practice, the less heavy your load will feel.
Later on, you will reach the point where your expenses aren’t too much to carry, allowing you to save up easier for future funds and investments.
Focus on Being Cash Rich Instead of House Poor
Thinking about financial statuses can put you in a lot of pressure. There may not seem like there are other ways around it, but the best way to overcome this is by focusing on the positive side.
Being house poor isn’t the best, especially knowing that this can cause you to have more trouble with your finances. But being too conscious about this doesn’t help you make progress.
Instead, focus more on being cash rich rather than doing bare minimum acts to avoid being house poor.
If you put more effort into being cash rich, your perspective changes. This will help you feel motivated to fix your finances and put them in order.
When you aim for being in a state where you are “cash rich,” you will think less about the fear of falling into the troubles that you may encounter from being house poor.
- Real Estate Leverage | Get Funding for Real Estate Investing with Financing from Other People’s Money
- What Does House Poor Mean and How to Not Fall Into The House Poor Trap
- What is Pier and Beam Foundation
- Is It Better to Rent or to Buy a House?
- Guide to Rehab a House and Fix Up a Property Yourself or Hire Someone Else
Premium online courses for any level of investor: beginner-advanced. Completely go at your own pace and can be taken through "Self-Study" or through "Membership".
Inside the membership, attend live 90-minute Group Coaching sessions with Coach Dustin Heiner as he and the MPI Coaches teach you how to build a successful real estate investing business.
Connect with the MPI Coaches and the other like-minded investors inside the MPI Mastermind Community. Ask questions about investing and get feedback how to be successful in your business.