Now that we’ve had some fun figuring out the minimum income and net worth required to buy a $5 million home, I thought it’d be nice to be more inclusive. This post will discuss the income and net worth requirements to buy a home priced from $200,000 to $50 million.
The income and net worth figures are determined by my 30/30/3 Home Buying Rule and my Net Worth Home Buying Rule. I truly believe the combination of these two rules creates the ultimate guide to responsible home buying.
My goal is to also provide a consistent home buying guide that works as we become wealthier.
Income And Net Worth Requirements To Buy A Home At All Price Points
Take a look at the chart below based on my two home buying guides. As you can see from the chart, the more expensive the home price, the more you need to make and the higher the net worth you should have.
You’ll see the minimum income and minimum net worth required to buy a home and the recommended income and recommended net worth needed to buy a home.
The Ideal Home Buying Financial Combination
Now let me share the ideal combination from best to worst before buying a home:
- You make the Ideal Income and have the Ideal Net Worth before buying a home at a certain price point. If so, you will have minimal financial worries and will likely enjoy your home to the fullest. At times, you may feel like you should live it up more.
- You have the Ideal Net Worth and the Minimum Income Required Income. In this situation, you also won’t have too much financial worry. Your net worth is well-diversified and generates a reasonable amount of passive income on top of your active income. You can probably make more active income if you want to.
- You have a Reasonable Income and Reasonable Net Worth. You’re right in the middle, however, your goal should be to boost your net worth so that your primary residence gets below 50% of your net worth.
- You have the Minimum Income Required and the Minimum Required Net Worth. Buying a home with this combination is a stretch. However, you are bullish on your future income and net worth growth. As a result, each year you work, you will feel more comfortable affording your home. The ultimate goal is to get your primary residence equal to 30% of your net worth or less by the time you retire or take things down a notch.
If you don’t make the minimum income or have the minimum net worth, it is not recommended you buy a home just yet. If you proceed to buy a home with this suboptimal combination, you will be too financially exposed to sleep well at night. Any job loss or recession may cause you to lose your home to a short-sale or foreclosure.
For first-time homebuyers, the most likely financial combination is having the minimum income and minimum net worth. But for experienced homebuyers, having financial combination #2 or #1 above is the optimal way to go.
If you become very wealthy (over $10 million per person), you might be able to stretch the rules further if you want to buy a nicer house. But my guide really does suggest keeping your primary residence value to roughly $3 million, and at most, $5 million. However, I usually see the opposite happen.
Once you become very wealthy, you tend to spend less of a percentage of your net worth on a primary residence. Most extremely wealthy people have the lion’s share of their net worth in businesses or investments.
The Relative Importance Of Income And Net Worth When Buying A Home
Income is the most important factor for buying a home with a mortgage. Without a high enough income, you won’t be able to get a loan. In this stringent lending environment, your income needs to be at least 20% of the price of the home you want to purchase. Most people with W2 income should be able to qualify.
If you are a freelancer with a more volatile income, then your income may need to be much greater than 20% of the price of the home. Further, at the bare minimum, you will need at least two years of minimum income before a lender will proceed. Therefore, you may want to refinance or purchase a home before giving up your W2 income.
As you get wealthier, lenders will be more willing to take into consideration your net worth when making a loan. This is called asset-based pricing, which comes in handy if your income falls below the 20% of home price threshold. For example, some borrowers with illiquid stock holdings can pledge their stock as collateral.
A High Net Worth Provides More Security
Between a high income and a high net worth, I would choose a high net worth. Not only does a high net worth provide more security, you will be better able to shelter it from high taxation. A high income is more a means to an end, which is a high net worth.
Therefore, the best combination from a tax perspective is to have a high net worth and just enough income to pay for regular living expenses and the house you want.
As I wrote in a previous post about 2022 income tax rates, the ideal incomes are:
- $170,050 MAGI for singles
- $340,100 MAGI for married couples
We can then select $12,060,000 for singles and $24,120,000 for couples as the ideal net worth. These are the estate tax exemption limits for 2022. With this combination, you pay the least amount of taxes and still get to do whatever you want.
If you happen to spend on something lavish, you can always draw down principal if $170,050 or $340,100 income is not enough income.
A Bigger, More Expensive Home Is Not Always Better
I’ve been in several 10,000+ square foot homes before and I’m not sure I’d like to live in them with a family of four or five. As an economics major, I just find unused space to be so wasteful. It makes me happy to have all or almost all rooms regularly used on a daily basis. I feel the same way when I load up my car with four or five people versus just me driving.
After about 1,500 square feet of space per person, it just feels like too much. Perhaps this feeling is a function of me living in expensive New York City and San Francisco since graduating college in 1999. But I feel plenty happy living in a house that is 700-800 square feet per person.
Eventually, if you have children, they will find somewhere else to live. As a result, you may eventually want a smaller home as well.
The number of maintenance issues and potential problems seem to grow exponentially with larger homes. Then, of course, there are higher property taxes and insurance as well. Personally, the maximum annual property tax threshold I’m willing to pay is $100,000. After that, it just feels like a waste.
A house’s layout is also extremely important. If you plan to work from home and raise small children, having a house that has multiple floors or sections is important for privacy and noise control. If you’re older and are more susceptible to falling, having a home mostly on one floor is more ideal.
Finally, what may be more important than interior space is exterior space. Homes with multiple decks and large yards are becoming increasingly popular post-pandemic. The indoor and outdoor living combination is one of the reasons why places like Hawaii are so ideal.
What Causes People To Buy Underutilized Mansions?
I’m curious to know the psychology behind why people buy mega-mansions. Is it just because they can? One friend in high school owned a 12,000 square foot house with an indoor heated pool in Langley, Virginia. A couple decades later, he told me the house was the reason why his family had to file for bankruptcy.
Having a mansion with a ton of land to run around on would be really nice. I’d love to have a water park, a playground, a tennis court, a basketball court, a lake, a paintball field, and a helicopter pad area. But other than that, what else does one need?
With a family of four or five, my limit is a five-bedroom, five-bathroom home across 5,000 interior square feet and 25,000 square foot plot of land. I’m sure I could get used to a larger home, but even if I had the money, I don’t want one.
Readers, do you think my recommended income and net worth figures make sense for varying home price points? Have you bought a home with less than my recommended minimum income and net worth figures? If so, how did you feel in the initial years? How much and how big is the home you currently live in?
Income And Net Worth Requirements To Buy A Home At All Price Points is written by Financial Samurai for www.financialsamurai.com