For many people, owning a home is part of the American Dream. But before you sign on the proverbial dotted line to purchase your first home, it’s important to be financially prepared and to understand how the process works.
Before you start shopping for a home, research the many types of mortgages available and get pre-approved. Being pre-approved for a mortgage loan means the lender has reviewed your income, debt and credit history and has agreed to loan you a specific amount of money. This process ensures that you’ll know how much house you can afford. Banks generally offer 15- and 30-year loans with different types of interest rates. A fixed-rate loan means the interest rate stays the same for the entire term of the loan, while an adjustable-rate mortgage means the interest rate may increase after a certain period of time. Your circumstances, such as how long you plan to live in your new home and the amount of your down payment, will determine which loan works for you. To obtain the best financing, buyers should “shop, compare and negotiate,” according to the U.S. Department of Housing and Urban Development (HUD). Your local newspaper and the Internet are good places to start shopping for a loan. Once you have received loan offers from several lenders, compare costs and negotiate the best terms.
How much house can you afford?
A common rule of thumb is that your house payment, including principal, interest, insurance and taxes, shouldn’t amount to more than 30 percent of your net income, says Charles J. Kovaleski, president of Attorneys’ Title Insurance Fund Inc. in Orlando, Fla. Ideally, all of your debt—credit card payments, other monthly bills and the mortgage—should be less than 40 percent of your take-home pay.
“You have to keep in mind that it’s a real commitment, and only buy when you are completely comfortable with that,” says Alacee Friars, a recent first-time homebuyer from Paulsboro, N.J. (pop. 6,160). Friars and her husband, Jason, purchased a smaller home than they originally planned. “My husband is working and still in school, so our financial situation may change. We didn’t want to get in over our heads.”
Consider your commitment
Because buying a home is a long-term obligation, consider these additional factors to determine if you’re ready to make the commitment:
Job security—How stable is your job? Do you want to continue working there? If you’re considering a career change or going back to school, these plans could affect your ability to make a monthly mortgage payment.
Credit history—Many lenders will approve your mortgage even if you have marginal credit, but that will cost you more in the future in terms of higher fees and elevated interest rates. If your credit score is less than stellar, improve it by paying bills on a timely basis, paying off revolving credit accounts and closing unused credit lines such as department store accounts before applying for a home loan.
Money in the bank—If ever there’s a time to have a “nest egg,” it’s when you’re a new homeowner. The mortgage payment itself will be a new expenditure and, with insurance premiums and property taxes, it’s usually higher than rent. Make sure to reserve some cash for the home inspection, closing costs and moving expenses.
Immediate plans—If you plan to move in the near future, or if your company is one that transfers employees frequently, you may want to continue renting. Keeping these factors in mind—and your finances in line—are the key to opening the door to home ownership.
Visit www.hud.gov and click on “Buying” under the Homes section to learn more.