The reasons to buy your first home are numerous. You are purchasing an investment that could increase in value over time. In addition, you could receive tax deductions and a new level of independence. If you’re a first-time house hunter, the process is exciting, and a little overwhelming. This is a big investment after all. To help you along, we have created a comprehensive guide on the financial side of buying your first home.
When Is It Time To Buy?
If you wait until the absolute perfect time for buying your first home, it may never come. However, that doesn’t mean you should jump in without giving it a good amount of thought and planning.
Here are a few questions to consider when starting the home buying journey. If you can answer “Yes!” to these questions, you’re probably in good shape to take the first step towards first-time home ownership.
Are your finances in order?
A mortgage is one of the largest debts that people take on. So your first step should be to make sure all your other finances are in order. Are you carrying a lot of other debt from credit cards, student loans or auto loans? You should consider making a considerable contribution to other outstanding debt before you start house hunting.
Have you saved enough for a down payment?
Typically it is recommended that you have at least a 20% down payment available when purchasing a new home. So if you’re looking for houses in the $250,000 price range, you’ll want to have at least $50,000 in savings for your down payment. There are financing options that require a smaller down payment or no down payment at all, but you may feel more secure with a larger down payment in place.
Can you make payments and handle emergencies?
In addition to your down payment, you’ll want to make sure that your income is secure enough that you’ll be able to cover your monthly mortgage payments, as well as handle any surprises that come with homeownership. A leaking roof, a burst water pipe or a downed tree branch can come at any time. Also remember to add the cost of utilities, taxes and insurance to your monthly expenses.
Will you stay in one place?
When buying your first home, it may be unrealistic to think you’ll land on your “forever home.” But you should look for a home that will be comfortable for you and suit your needs for at least 5 years. Otherwise, the increased value of any repairs and improvements you make to your new home, may not be realized when you sell your home.
Know Your Credit Score
When buying your first home, your credit score is going to play a crucial role in obtaining a mortgage and securing a favorable interest rate. Your credit score is a numeric representation of your credit risk based on your credit history. Lenders use your credit score to judge how big of a risk they are taking by loaning you money.
Your credit score is somewhere in the range of 350 – 850. A higher score represents a lower risk.
To determine your score, credit bureaus look at whether you pay your bills on time, how much outstanding debt you are carrying, and how much credit is available to you.
If your credit score is in the Excellent, Very Good or Good ranking (typically 700- 850) you have more options available to you when choosing a loan, and you receive the best interest rates and lower fees. A Fair, Bad, or Very Bad ranking (350-700) puts you at higher risk of default. You will be charged higher interest rates and may need to make a larger down payment to cover the risk.
Paying your bills on time and staying clear of the maximum limits on your credit cards are the easiest ways to improve your credit score and keep it in good standing.
Financing Options for First-Time Home Buyers
Before you hunt for a house, it’s helpful to get a mortgage pre-approval. A pre-approval is not a loan. It simply shows how much a financial organization is willing to lend you and what price range you should be searching for houses. Also remember, you don’t need to spend the total amount you are pre-approved for. Many times, the amount you are pre-approved for is more than you are comfortable with spending each month.
Types of Loans
As a first-time home buyer, there are a several loan types available to you. Here are few financing terms that you should be familiar with:
Fixed Rate Mortgage – This is a common mortgage type. As the name implies, your interest rate is locked in for the duration of your loan, and your monthly payment stays the same. The benefit is that you don’t need to worry about rising interest rates, and you can always refinance your mortgage to take advantage of falling rates.
Adjustable Rate Mortgage – With this loan type, you sign on at a lower interest rate, and as a result, have lower monthly payments. After a specified period of time, the interest rate will rise and will continue to fluctuate as interest rates naturally rise and lower. This may make it difficult to forecast what your future monthly payments will be, adding a wrinkle to long-term financial planning.
FHA Loans – These loans are targeted towards home buyers who may have trouble qualifying for traditional loans. FHA Loans are insured by the Federal Housing Administration (FHA) and are provided by FHA-approved lenders. They require a smaller down payment, as small as 3.5%, and a less than stellar credit history. The homeowner must carry mortgage insurance due to higher default risk.
How much you can afford?
There are several rules of thumb when it comes to the cost of your home as a portion of your income. Generally it’s recommended that your mortgage, along with property taxes and homeowner’s insurance represent 25-30% of your income. Another way of looking at home buying figures is to limit the cost of your home, taxes and insurance to 2 ½ times your annual salary.
Mistakes First-Time Home Buyers Make
A turn-key home with all the latest upgrades is dream come true, but if it’s not realistic with your budget, you may need to pass.
Living in the future
If you’re in a job with a lot of upward mobility and opportunities for wage increases, you may already be counting those future earnings in your head. But when it comes to buying your first home, you need to work with the income that you have currently. Don’t finance a home by banking on money you don’t have right now.
Not looking at the details
The finances of paying for a new home can include more than you realize, especially when you’re a first-time home buyer. In addition to your down payment, you’ll be expected to pay for closing costs, mortgage insurance (which you may be required to carry if your down payment is less than 20%) and other fees.
Not protecting yourself
Falling in love with a house is only natural. So is wanting to move quickly with an offer so you don’t lose that house. But no matter how quickly you want to move, you should always take the important step of having a home inspection done. No one can know, without a professional inspection, what problems can lie unnoticed in a home. Nothing is more frustrating than needing to shell out a lot of money for a major home repair soon after taking ownership of your home.
If you’re seeking even more information on buying your first home in the Reading or Pottstown areas, contact us and speak to one of our Diamond mortgage professionals.