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Moving to a new apartment or other living situation can often feel exciting. However, it also comes with budgeting for living expenses and ensuring you can afford your new unit. So how much should you spend on rent?
- What does rent-to-income ratio mean?
- What’s the ideal rent-to-income ratio for a tenant?
- How do you calculate rent-to-income ratio?
- How much should I spend on rent?
- What’s next: Improve your credit by paying rent on time
What does rent-to-income ratio mean?
Find your fixed income-to-rent ratio when deciding how much you should spend on rent. This ratio compares your gross annual or monthly income to what your rent costs. It’s used to calculate how much you can afford to pay towards rent.
A high rent-to-income ratio means that a significant amount of your monthly income goes straight to rent. On the other hand, a low rent-to-income ratio means that only a small chunk of your monthly income goes toward paying rent.
What’s the ideal rent-to-income ratio for a tenant?
According to the U.S. Department of Housing and Urban Development, budgeting 30% of your income for rent is the recommended maximum. When you spend more than 30% of your income on rent, you may find yourself limited when spending on other expenses and putting away money into your savings.
Many landlords require tenants to demonstrate that their monthly income is at least three times the rent. But this isn’t always the case — in cities with high living costs, like San Diego, it isn’t unusual for tenants to spend more than 30% of their income on rent.
How do you calculate rent-to-income ratio?
When figuring out your rent-to-income ratio, you can use the following equation:
Image: rent-to-income-ratioLet’s look at an example of calculating a rent-to-income ratio to further illustrate how it works. For this example, we’ll say you have a gross monthly income of $4,000 and are considering moving into an apartment with a monthly rent of $1,500.
[1,500] / [4,000] = 0.375 x 100 = 37.5%
In this scenario, your rent-to-income ratio would equal 37.5% —which is more than the standard maximum. You may want to consider renting a less expensive apartment or consider ways to lower your other expenses.
How much should I spend on rent?
The exact number will vary depending on your income, the area you’re living in and other expenses in your life. Here are some factors to consider when figuring out your living expenses.
30% threshold
Generally, allocating 30% of your net income towards rent is a good place to start.
When calculating your income-to-rent ratio, remember to use your total household income. If you live with a roommate or partner, factor in their income to ensure you find a rent range appropriate for your situation.
50/30/20 rule
After you’ve set a fixed income-to-rent ratio, consider the 50/30/20 rule to round out your budget.
According to this budgeting rule, 50% of your income goes to essentials, 30% to nonessential personal expenses, and the remaining 20% to savings, debt or investments. In this case, rent falls under “essentials.” This category also includes necessary expenses, such as utilities, food and transportation.
Image: 50-30-20-budget-ruleLet’s consider a hypothetical situation where you make $4,000 per month. Under the 50/30/20 rule, you would have $2,000 (50%) per month to spend on essential living expenses and groceries, $1,200 (30%) to spend on non-essential living expenses — such as going out to eat or entertainment — and $800 per month to put towards your savings account, retirement accounts and other investments.
Stretch your monthly budget
If your desired apartment seems slightly out of budget, you may be able to make it work by cutting unnecessary costs elsewhere. Look for ways to cut down on utilities, insurance and groceries if it makes sense for you.
Utilities — You may be able to cut TV and mobile services that don’t serve you and your budget anymore. Consider swapping out your light bulbs for eco-friendly and energy-efficient ones to reduce your electric bill.
Insurance — Instead of paying monthly renters insurance rates, you may get a discount by paying your yearly premium in full. If you have a roommate, ask to share a policy.
Groceries — Stretch your food budget by adding canned beans or frozen vegetables to your meals. You can also save money by buying in bulk.
What’s next: Improve your credit by paying rent on time
Finding a place to rent that costs a maximum of 30% of your monthly gross income can help you find an affordable living space without sacrificing other parts of your daily expenses.
Conversely, paying rent on time may help you build your credit. While rent doesn’t typically appear on credit reports, some services can help you report your rent payments to credit bureaus so you can reap the benefits.
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