Steps To Follow When Buying A Home
Purchasing a home is a big life step and with any big life change, it is always best to be prepared and knowledgeable in order to make the right decision. Below are five simple steps to take when buying a home.
1. Organize your finances
The first major task in this step is to save for a downpayment. Most conventional loans require a 5% – 20% downpayment at closing. In fact, a conventional loan will require PMI(private mortgage insurance) if you put less than 20% down. A good incentive is the larger the down payment the better rates a lender will offer. Putting a larger downpayment on a home will allow you to save money over the life of the mortgage loan.
Another factor that will determine your interest rate and the type of loan you qualify for is your credit score. A credit check is required by lenders in order to offer you a mortgage. Remember lenders do perform hard inquiries on your credit report which will impact your credit score. If you are shopping around for mortgage lenders, ask them to do a soft inquiry on your credit check so it will not impact your score.
You will also want to save up for closing costs which will be about 3% of the total home price. These costs include the loan, underwriting, and other fees associated with the purchase.
2. Determine how much house you can afford
When sitting down to determine how much you are able to afford on a house, look at your debt-to-income ratio. A lender looks at your debt-to-income ratio. Basically, this is comparing your income to your debt and usually, it has to fall under 43% to qualify for a mortgage. An example would be if your monthly debt totaled $3,000 and your monthly income is $10,000 your DTI would be 30%.
Not only should you understand your DTI but also how a mortgage payment is calculated. A monthly mortgage payment includes the principal payment (goes toward the amount you borrowed), interest, escrow (property taxes/homeowner’s insurance) and if applicable PMI. A mortgage calculator is a great way to become familiar with the cost associated with a mortgage.
3. Understand your mortgage
There are several pieces that lenders use to determine your interest rate. The better your credit score the better your interest rate. Someone with a lower credit score could have a 1% higher interest rate on the same mortgage as someone with a higher credit score. The length of the loan also plays a factor. In some instances choosing a 15-year loan over a 30-year loan will allow you to get a lower interest rate. The Federal fund rate also determines the interest rate. If the federal funds rate is low, it means it does not cost a bank as much to borrow money. Those savings are passed to you from the bank in form of a lower interest rate. Different lenders will offer different rates so shop around for the best rate. A primary residence will also be in favor when it comes to a lower rate. A secondary or vacation home will bump the interest rate up.
Conventional loans have stricter qualifications than an FHA loan. An FHA loan allows for a smaller down payment and less stringent qualifications. This is a great way to go if you are a first-time homebuyer. To compare, a conventional loan minimum credit score is around 620, where an FHA minimum credit score is 500 – 579.
As mentioned before, PMI can increase your monthly payments. If you want to avoid PMI you have to put at least 20% down. If you cannot put 20% down, PMI can be removed off a conventional loan once you have a built-up 20% equity. On an FHA you will either have to pay PMI for 11 years or the life of the loan. This depends on the loan amount, length of the loan and the loan-to-value ratio (LTV). If you do decide to go with an FHA, you will also be required to have Up Front Mortgage Insurance (UFMI). This will be 1.75% of the base loan amount and can be paid at closing or rolled into your monthly mortgage payments.
4. Get pre-qualified or pre-approved for a mortgage
There is a difference between getting pre-approved vs pre-qualified for a mortgage. Sellers like to see a pre-approval letter from a mortgage lender. This means the buyer is serious and can afford the home.
- Pre-qualification is a quick process that tells you roughly how much you can afford to spend on a home, based on your self-reported income, debts and assets.
- To obtain pre-approval, you’ll have to provide verifiable financial documents to the lender. The lender will review your credit report, financial history, income statements and more to determine how much they would be willing to lend you.
5. Look for a property and make an offer
In today’s market, there are more buyers than sellers making it hard for a buyer to sit and think on it overnight. If you like the home and it fits all your criteria, submit an offer.
A Realtor can help you with the process and help you navigate this hot market. They can negotiate your price and terms as well as recommend mortgage brokers, title companies and inspectors. A Realtor will be with you from your search to the closing.
