Seeking to buy a house is a truly exciting prospect. However, it can also be stressful and quite daunting if this is your first home purchase. To ensure that the process goes as smoothly as possible and with as little headache as possible, prepare yourself both financially and mentally with the knowledge required to make an informed decision.
The best way to prepare to buy a house is to follow the steps below in sequence. By breaking up the process into several steps, you can approach buying a house in an organized and efficient manner, and ultimately find the house you are looking for at a price that is within your budget.
Deciding If You’re Ready to Be a Homeowner
Becoming a homeowner is one of the largest financial decisions you will ever make in your life. Are you ready? Answer the following questions to better determine whether or not you are really ready to buy and own a home.
Do You Currently Have any Debt, and if so, How Much?
Credit card payments, student loan payments, car loans, medical bills, and other forms of debt can make a huge dent in your monthly budget. If you have significant debt that you won’t be able to eliminate soon, it will make it difficult to make your mortgage payments and handle other household expenses.
Are You Counting All Your Future Expenses?
There are plenty of extra expenses associated with owning a home you may not be calculating into your budget. Consider homeowners insurance, home warranties, alarm systems, yard and lawn maintenance, HOA fees, periodic home repairs, additional utility bills, and more.
Is Your Job’s Income Steady?
Is your income steady and/or likely to increase? Do you and your spouse both work and, if so, will you still be able to handle homeownership expenses if one of you loses your job?
As a good rule of thumb, you want to allocate only 30% of your monthly income or less towards your projected mortgage payment. This gives you a good idea of what you can afford. Consider any mortgage payments that are more than 30% of your monthly income to be out of your affordable range, unless you know how to budget really well.
Do You Have Savings?
While it isn’t necessary to have a large amount of savings set aside for a home purchase since some mortgage options allow very small down payments, it is still beneficial to have savings in case of an emergency. Savings will prepare you for unforeseen occurrences such as needing a new HVAC unit or having a roof leak that needs immediate repair.
And if you do have savings to allocate towards a down payment, it will help lower your monthly mortgage payment as well as enable you to avoid paying private mortgage insurance (PMI), another extra monthly expense you didn’t think of.
Answering all of these above questions gives you a more realistic idea of whether or not you are ready to purchase a home. It’s important to be honest with yourself because all of these above factors are considered and scrutinized by mortgage companies.
Your chosen mortgage broker will collect detailed information pertaining to the above to effectively determine if you are eligible for a mortgage. Essentially, the majority of this information is used to calculate your creditworthiness, which is especially important.
When mortgage companies look at your creditworthiness, they are looking at much more than just your credit score. Your creditworthiness is also based on how well you’ve handled credit and debt obligations, and what your debt to income ratio is. Mortgage lenders have higher standards for creditworthiness than other types of lenders, so improving your creditworthiness as much as you can before applying for a mortgage is highly recommended.
Take Care of Debts
For starters, you should eliminate or reduce debt as much as possible. If mortgage lenders see that you have large debt payments taking a chunk of your income each month, they will be less inclined to grant you a mortgage. Getting rid of debt directly improves your credit score as well as reduces your debt to income ratio.
Make Payments on Time
Even a single late payment can leave a lasting mark on your credit report for some time. Avoid late payments, and if you have any payments that went to collections, take care of them right away.
Contact the Credit Reporting Companies
Obtain copies of your credit report from Equifax, Experian, and TransUnion. Review them to see if there are any mistakes or items that have been resolved but remain on the credit report. Even one small item being corrected can result in raising your credit score.
Calculating How Much You Can Afford
You will already have a pretty good idea of what you can afford after answering all the above questions, but the following will provide you with a much more solid figure to work with.
First, calculate your total monthly household income, and your monthly household debts and expenses. Remember to factor in expenses you might not be paying yet, such as homeowner’s insurance, extra utility bills, etc. The standard rule of thumb is that your monthly expenses, including your mortgage payment, should not exceed 36% of your monthly income.
The money you have available for a down payment and closing costs is also important to consider. The more you can allocate towards a down payment, the more you can reduce your monthly mortgage premium.
Lastly, your credit score and creditworthiness also determine what interest rate you will receive on your mortgage. Just because mortgage lenders advertise a low rate doesn’t necessarily mean you’ll receive that rate. Debt and/or a lower credit score makes you more of a risk in the eyes of mortgage lenders, causing you to receive a mortgage at a higher interest rate.
The next step before you begin checking out the market is to obtain mortgage pre-approval. This doesn’t mean you’re getting a mortgage. It just means that a mortgage lender has taken a cursory glance at your finances and creditworthiness and determined that you are eligible to borrow a certain amount of money for a mortgage.
While the true mortgage process is much more involved and typically lasts a few weeks before final approval, the pre-approval is important for a number of reasons. One, it again lets you know what you can afford so that you won’t waste time looking at homes you definitely can’t afford.
Two, it lets you know in advance what interest rate you can expect and what your monthly payments will be when granted a mortgage for that specific amount.
And three, it lets real estate agents and home sellers know that you are serious about purchasing a house and that you have a good chance of getting a loan after you make an offer and start the mortgage approval process.
Keep in mind that the pre-approval letter provided to you by a mortgage lender does not guarantee a mortgage. The mortgage lender still has to spend ample time collecting and reviewing a great deal of your financial information before making a final determination.
Researching the Market
With a good idea of what you can afford and pre-approval letter in hand, you are ready to start researching the market. Is it currently a buyer’s market or a seller’s market? Is there a shortage of properties available? Are housing prices in the area rising? Is it really the best time to purchase a home? The answers to these questions may help you decide if you are ready to buy a home now.
You should also have a clear list of what you are looking for in a home so that you can provide your chosen realtor with the details. This helps the realtor narrow down the available choices and only present you with homes that fall within your budget and criteria.
Identifying Neighborhoods and Features
Are there specific neighborhoods you like? Are there neighborhoods you are willing to look in but aren’t so familiar with? This information is also important as it further serves to narrow down your choices and avoid wasting time. Take the time to research various neighborhoods, along with their features and amenities, and any associated homeowner’s fees if applicable.
Consider your lifestyle and needs when focusing on certain neighborhoods. A house may look great in one neighborhood but if the neighborhood doesn’t support your lifestyle, it isn’t really a great choice.
Is the neighborhood convenient to work and go shopping? Are there nearby parks and other attractions? Is any of that important to you? If you have children, what are the nearby schools like?
Take the time to research the various neighborhoods, and you’ll be much happier when you make your choice to buy a home.
Partnering With a Realtor
Finding a realtor isn’t difficult–there are likely hundreds of them to choose from. Find one that you are comfortable with and will work hard for you? That’s another story. Ask friends and family that have recently worked with a realtor about their own experience. If they don’t know anyone, then you’ll have to do some research.
First and foremost, make sure the realtor’s license is up to date. See if the realtor has any professional awards. You can also get a good idea about a realtor by examining their current listings. Ask plenty of questions so that you can gauge how much a realtor knows about the area, as well as enable you to get a feel for how comfortable you feel with the agent.
Do they take the time to answer your questions thoroughly, or do they seem rushed and inattentive? Will they be available for you when you need them? Will they work for you, or just push for a close? If you can answer these questions, you can make an informed decision and choose an agent that is right for you.
Happy house hunting!