Buying a home will likely be the biggest purchase you make in your life. At least until you buy your second, more expensive home. Recently, the real estate market has appeared to be cooling. All the same, home ownership is still a major part of the American Dream. It can also be a great way to help build wealth over time, when done properly.
Here are six things you need to know when buying your first home.
- Begin with Getting Ready to Borrow via a Mortgage.
Your dream home may or may not be within reach today. You might be able to buy more house than you really need. How much of a mortgage payment you can truly afford will likely depend on your lifestyle as well as assets, income and debt. Before you run off and find your dream home, you should put some time into determining what you can really afford.
You should also check your credit score. A low credit score means you will likely have to pay a higher interest rate on your mortgage. This can dramatically change the total cost to purchase a home.
Assuming your credit is in good shape, ideally higher than 720 and extra credit for those above 760, you should begin talking with a lender. You can have a preliminary conversation about a mortgage and get what is called “pre-qualified.” This is an educated guess of what type of mortgage you may be able to qualify for based on your income, debt and assets. You may wish to start the conversation with your local bank but I do recommend shopping around for your mortgage. Rates and fees can vary greatly from lender to lender. Even small changes in the Annual Percentage Rate (APR), or interest rate, can mean tens of thousands of dollars in extra interest over the life of a loan.
- What You Qualify for versus What You Want to Afford.
If you have a conversation with a mortgage broker, they will answer the question, “How much can we qualify to borrow?” You can likely qualify for as much as 43% debt to income. That means the total of all your debt payments, plus the mortgage, can be up to 43% of your gross income. If you decide to go that high, you may end up feeling house poor after paying for other expenses like taxes, food and dining out with friends and family.
The general rule of thumb is to try and keep your total housing cost below 30% of your gross income. The lower the better. Of course, the more debt you have (car payments, student loans, credit cards) the more pressure your budget will feel with a mortgage this high, or worse, higher. Don’t set yourself up to be house poor for the next thirty years. Life is stressful enough.
There are some exceptions to this rule. For those with large savings but lower income, you may feel more comfortable with a slightly higher debt-to-income ratio. That is especially true if you have the cash to pay off the mortgage at any time. The other exception is for self-employed folks who often look much poorer on paper than they likely are. With all of the available tax breaks for small business owners, they may have more disposable income to spend on housing than one might expect based on their net income.
- How Much of a Down Payment Should You Make
Historically, the standard down payment was 20 percent or more. However, first-time home buyers can often…