Stick to the 28/36 rule

2691 views
4 mins read

Rising prices have been a major topic of discussion over the past few weeks.

In essence, however, individuals can do little to mitigate the effects of rising fuel and commodity prices on a global scale.

Nevertheless, it constitutes a good opportunity to recall some simple and basic rules that should be applied by all households, be it in times of high inflation or when prices are at lower levels.

Τhe (often forgotten) general rule that everyone should follow is not spending more than we earn.

Whether the majority of households is implementing this will be seen in practice in a few years.

However, we are concerned that low interest rates and government subsidies may have pushed many to take on loan obligations, which they may, at some point, be unable to meet.

The current situation is a great example: the cost of living is increasing and, with it, the financial pressure on an average household.

That is why this article aims to be just a…kind reminder of the 28/36 rule.

A very simple rule that helps us calculate the impact that lending can have on your household’s financial situation.

The number 28 refers to not spending more than 28% of your gross income on housing-related expenses.

These expenses may include a mortgage, home insurance and property tax.

For those who rent a property, it concerns all the expenses related to the property they live in.

The number 36 refers to not spending more than 36% of your gross household income on borrowing-related expenses.

In addition to a housing loan, expenses may include a car loan, credit cards, or even the purchase of some goods and products in monthly instalments—an increasing consumer trend lately.

For example, if the annual gross family income is €40,000, your housing costs should not exceed €11,200 or €933.30 per month.

Accordingly, your annual borrowing-related liabilities should not exceed €14,400.

We do not need to delve into the reasons why all households should exercise prudent financial management.

During the last few years, we have all witnessed the situation with non-performing loans, the accompanying loan sales, and the high private debt that is currently impeding economic growth.

Be that as it may, we are all witnessing increases in fuel and basic consumer goods.

If, for example, a household’s fixed expenses have increased by 10% -15% during this period, then those who did not comply with the rule of 28/36 will face problems and find it difficult to meet their financial obligations as their budget will be further stretched.

Things become even more difficult for those who did not follow the 28/36 Rule at all.

If price increases continue in the long run, including interest rates rising on existing loan facilities, then the situation will become even more troublesome.

That is why prudent financial management is always necessary.

Even more so during the good times, since that is when the necessary “stock” for the hard times is created. And there will always be difficult economic periods, either because economic cycles are coming to an end or because unexpected events occur.

 

Pavlos Loizou, Managing Director WiRE FS