Housing budget: how to set a realistic budget before buying a home

You can work out your financial limits before you even start looking at homes. It is the order that makes the difference. Figures first, homes afterwards.

Prices are rising in the biggest cities and in the commuter areas around them, time on the market is short, and first-time buyers face several rounds of bidding before a deal is settled. At the same time, interest rates are higher than they were a few years ago. Budgeting is therefore the most important work you can do before you book your first viewing.

A budget for buying a home is not only about what the home costs. It is about what your finances can bear. The bank assesses your income, your fixed expenses, your savings and your debt to decide how large a loan you can realistically carry. These four figures are the starting point, and they tell you far more about your situation than an advertised price does.

From there you need to get to grips with the debt factor, down payment, disposable income and buffer. This guide gives you the precise figures and rules behind each of them.

How much can you borrow? How the debt factor sets the limit

You can make a first estimate yourself of how much you can borrow. The starting point is the household's gross annual income and the debt factor (gældsfaktor), which is the household's total debt divided by income before tax. The Danish Financial Supervisory Authority (Finanstilsynet) does not have a fixed cap of 4 times income, but if a household has a debt factor above 4 and a loan-to-value ratio above 60%, it can, as a rule, only choose certain loan types (see below). Four times income is therefore a good benchmark for total debt, but the final limit is set by the bank based on whether you can pay a fixed-rate loan with repayments.

The debt factor of 4 applies to total debt, not just the home loan.

Take a household income of 800.000 kr. a year. Multiply it by 4 and you get a total debt of 3.200.000 kr. If the household has no other debt, the whole amount can go towards a home. If the household owes, for example, 200.000 kr. in student loan debt (SU), there is 3.000.000 kr. left for a home loan within the limit of 4 times income. Debt is deducted krone for krone, so the 200.000 kr. disappears directly from the amount you can spend on a home.

The same logic applies when income is higher. A household income of 1.000.000 kr. a year gives a total debt of 4.000.000 kr. with a debt factor of 4. Again, it is the total debt that counts against the ceiling, so everything you already owe eats into your headroom.

That is why it is not only student loan debt that matters. Car loans, consumer loans and other credit count towards the debt factor krone for krone. A car loan of 150.000 kr. uses up 150.000 kr. of your headroom under the limit of 4 times income, and the payments on the loan also reduce your disposable income. You get no discount just because the debt is of a different type. From the bank's point of view, debt is just debt.

Factor in the limit of 4 times income before you go any further: it is the starting point, and the banks still assess your specific finances. Start with your gross annual income, multiply by 4, and subtract everything you owe. That gives you a first benchmark before you look at a single home.

Down payment and financing: the 5 per cent and the 80/15/5 model

Your down payment on a home is not up for negotiation. Under the rules of good practice for home credit, you must, as a rule, pay at least 5% of the purchase price yourself as a down payment. The 5% is not a recommendation from the bank but a floor, and you must be able to meet it before the rest of the financing can fall into place.

The model most people know as 80/15/5 builds on the 5%. It divides the home's value into three layers: a mortgage loan of up to 80%, a bank loan of up to 15% and your own down payment of at least 5%. For a home costing 3.000.000 kr., the split looks like this:

The three layers affect your loan terms in different ways. The mortgage loan covers by far the largest part and is typically the cheapest, because the loan is secured on the home. The bank loan covers the layer from 80 to 95% of the home's value and carries a higher interest rate, because the bank takes a greater risk on that part. Your own down payment is the last piece, and it must be in place before the other two can come into play.

80/15/5 is often misunderstood. The split is one possible model, not a promise that the bank will finance the 15%. A 5% down payment does not in itself entitle you to a loan either. The lender also assesses your income, your expenses, your other debt and the rest of the financing before a deal is settled.

If you borrow the down payment elsewhere, for example from family or through a consumer loan, it does not disappear from the calculation. The extra debt is included in the calculation of both debt and disposable income, and it eats into the headroom you would otherwise have had. From the bank's point of view, the money is borrowed, wherever it comes from.

Disposable income: can you afford to live in the home?

The debt factor gives a benchmark for how much you can borrow. Disposable income tells you whether you can afford to live in the home afterwards. It is the money you have left each month once tax, housing costs, fixed bills and existing loans have been paid. The bank sets a minimum requirement for how much must be left.

There is no fixed minimum amount set by the authorities. Each bank has its own minimum requirements, typically an amount per adult and a supplement per child, and the bank must also assess whether the amount is sufficient for you specifically. Ask about your bank's figures before you go any further.

The stress test comes next. Even if you choose a cheap variable-rate loan, you are approved on your ability to pay a fixed-rate loan with repayments. For a loan of 3.000.000 kr. over 30 years, it looks like this:

• A variable-rate loan such as an F-kort or F1 can have lower payments, but they are not used to approve you.

• A fixed-rate loan at 4,5% comes to about 15.200 kr. a month before tax and the administration margin (bidrag), and it is this payment that typically forms the basis for approval.

• If you live in Copenhagen and the surrounding area or in Aarhus and choose a variable rate, the bank should, as a general rule, base its calculation on a fixed rate that is 1 percentage point higher than the current one, but at least 4%. At 5,5%, the payment comes to about 17.000 kr. a month before tax and the administration margin.

If you are highly leveraged, there are fewer loans to choose from. This applies to households with a debt factor above 4 and loans above 60% of the home's value. They can choose:

• A fixed-rate loan with repayments

• A fixed-rate loan without repayments

• A variable-rate loan with repayments and an interest rate fixed for at least 5 years, for example F5

On the other hand, highly leveraged borrowers cannot choose F-kort, F1, F3 or other loans where the rate is fixed for less than 5 years. It is the debt factor and the loan-to-value ratio that determine how free the choice really is. Disposable income when buying a home is closely tied to precisely this choice, because a higher payment eats into the amount that must be left each month.

The hidden items and the buffer that keep the budget realistic

Most people calculate what the home costs and forget everything that comes with it. There are items you have to pay that never appear in the advert. Look at those first.

The costs that are not in the advert

On top of your cash down payment, you need to set aside money for registration, a lawyer and other costs. The registration fee (tinglysningsafgift) is 1.850 kr. plus 0,6% of the purchase price for the deed and 1.825 kr. plus 1,25% of the loan amount for registering the mortgage for your loans. On the 3.000.000 kr. home in the example above, the registration fee alone comes to about 59.000 kr. This is money that leaves your savings before you have even been handed the keys, and it must be there at the same time as the down payment. If you only budget for the 5%, you suddenly face a shortfall you cannot cover.

Then there are the running costs. Owners' association contributions, property tax, insurance and heating come every month on top of the loan, and they do not go away just because the loan is cheap. A rule of thumb says that your total housing costs should not eat up more than about a third to just under half of the household's net pay. If you are above that, there is not much left for everything else in life, and the bank sees the same thing when it assesses your finances.

Also remember that a loan with a low payment today can change. A variable-rate loan is adjusted regularly, for some every year, for others every three or five years. If you choose an interest-only period, you pay only interest for a while, the debt is not reduced, and the payment rises when the interest-only period ends. This does not mean you should avoid the loan, but you must be able to absorb the extra payment if it appears.

The buffer you cannot skip

A cash buffer of typically 3 to 6 months of fixed costs is what keeps the budget afloat when something unexpected happens. The washing machine dies, the roof needs checking, or you lose income for a period. Without that buffer, even a minor expense becomes a loan you had not planned for. Then the whole budget falls apart.

Note that the buffer must cover your fixed costs, not just the loan. Many people confuse the buffer with the down payment and think they have things under control because there is money in the account. But the down payment is tied up in the home, and the buffer must be freely available if something goes wrong.

What to do before you make a budget

A realistic housing budget is largely about knowing your own spending before you start doing the sums on a home. Take these two steps before you put a single figure into a budget.

1. Go through the last 3 to 6 months of your current account and categorise your expenses into fixed and variable items, so you know what you actually spend each month.

2. Test scenarios: calculate what your finances look like if the interest rate rises by a couple of percentage points, or if your income temporarily falls, for example when changing jobs or on parental leave.

The two steps give you a picture of whether there is room to spare in the budget or whether you are cutting it fine.

You have worked out your financial limits: here is what to do next

Now you have the tools to make your own estimate of how much you can spend on a home. The debt factor of 4 is a benchmark for debt, the 5% down payment requirement is the floor under the financing, the 80/15/5 model shows how the three layers are divided, and disposable income decides whether you can afford to live in the home afterwards. Put the four figures into your own calculation, and you have a budget based on your own finances rather than on an advertised price.

Try it with a concrete figure. If the household has a gross annual income of 800.000 kr. and no debt, a debt factor of 4 gives a total debt of 3.200.000 kr. If the loans make up 95% of the price and you pay the last 5% yourself, you can buy a home for about 3.370.000 kr., of which about 168.000 kr. is your down payment. The transaction costs come on top. These are the kind of figures you can bring to a conversation, because you have worked them out yourself and know what they cover.

The larger the down payment you have yourself, the more expensive a home you can buy for the same debt, because the down payment comes on top of the loans. Once you have your own figures in hand, Brikk can put you in touch with a lender, who can look at your specific finances and the loans that suit them. It is free.

Remember that the bank always makes an individual assessment of your income, your expenses and your other debt. The figures here are not a promise of a loan, but they give you a solid basis for the conversation.