This simple tool will save the next wave of home buyers from the mistake of overspending

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High on the list of financial behaviours that need to change in the postpandemic world is overspending on housing.

It’s now obvious that the financial commitment of owning a home left some people without savings that would have softened the financial effects of the pandemic-caused economic shutdown. What we need going forward is a more sustainable model of home ownership where people can pay for their homes and have money left over to save for retirement and enjoy in ways such as family holidays and meals out.

Our contribution at The Globe and Mail toward this goal is a relaunch of the Real Life Ratio calculator, an online tool originally developed at the peak of the housing boom to help people see whether a home is affordable. You can access it here.

The economic damage done so far by the pandemic shows the importance of saving cannot be overemphasized. Veteran mortgage broker Vince Gaetano found this out in recent weeks as he talked to clients who have lost a job or had their income interrupted.

”I’ve been very interested to find out how they feel, and one of the underlying themes is a sense of embarrassment and regret,” he said. “They regret not saving money, they regret certain purchases, they regret not having a backup plan, an emergency fund, any type of investments.”

Prepandemic, the big home buying risk in cities with strong real estate markets was missing out on rising prices. You bent your finances to fit your house and waited for an immediate payoff through price appreciation.

The pandemic is a reminder of the need to make your house fit your finances. The Real Life Ratio calculator helps you do that by taking a tougher-minded view of what’s affordable.

Affordability in the mortgage-lending business is based on formulas that compare your income with the amount of mortgage and other debts you have. If your mortgage preapproval or application goes through, it means your lender is confident you won’t default on payments. In no way does the approval mean you can afford the house and life’s other costs.

This is where the Real Life Ratio calculator comes in. You can model what your finances would be like based on a particular mortgage payment plus other expenses such as daycare, car payments, home maintenance and long-term savings for retirement and your children’s postsecondary education.

Play around with this calculator while you look at real estate listings. Check out how buying a home at the upper limit of affordability crowds out other spending, and how spending less opens up all kinds of opportunities to both save and spend.

We will see the investment value of houses tested in the months ahead. Housing market optimists and realists are duking it out right now over whether prices will fall, be stable or even resume their upward path in the hot markets.

But it hardly matters how much your house is worth when the economy falls into recession. Having your house rise in price doesn’t help you pay the bills if your job disappears or your hours are cut.

You can use a home equity line of credit to help pay bills, but you’re basically renting your own money. Interest must be paid monthly on money taken from a HELOC, and you have to repay the principal in full eventually.

The Real Life Ratio calculator can be a bit of a buzzkill. If there won’t be room to save anything should you buy a particular house, you’ll see this plainly. So, what will you do about it?

Here are some thoughts on that:

• Save longer: A weaker housing market would give buyers a chance to save a bigger down payment while prices fall or remain stable.
• Buy smaller: Remember that you can renovate to create extra space if needed later; if your friends and family can’t stop talking about how small your home is, tell them your mortgage is small, too.
• Buy farther away: The work-at-home trend may help you buy in the suburbs or a more far-flung community without entering commuter’s hell.
• Rent: Losing the froth in the housing market should help rein in greedy landlords.

If house prices fall in the months ahead, it’s a buying opportunity for first-timers with solid finances and a plan to own for at least five years. Keep it real if you’re out there house-hunting. Do not buy without first running your home through the Real Life Ratio calculator.

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