Getting Financially Ready to Buy a House
Eileen St. Pierre, The Everyday Financial Planner
Buying a home is a big financial step. A home can be a great way to build wealth. But I have never heard anyone tell me that they look forward to the mortgage application process. If you take the time to get your financial house in order, it can really help alleviate the stress of taking out a mortgage.
Here are some tips to get you financially ready to buy a house.
Determine how much house you can afford.
The general rule of thumb is 2 to 3 years’ of income. If you have student loans or other major debts, you may want to look for a home on the low end of this range.
Another rule of thumb is to put 20% down to avoid paying private mortgage insurance (PMI) and to secure a better interest rate. However, this can be a high hurdle for many, and there are mortgage programs out there that do not require that high of a down payment. Just remember, the more you put down, the more “skin” you have in the game, and the lower the interest rate on your mortgage loan.
Google “mortgage calculator” to find many free sites that will show you what your mortgage payment will be given the following inputs:
- The loan amount
- The annual interest rate
- The term (Choosing between 15-year and a 30-year mortgage).
Set up a special savings account just for your down payment.
Label the account something like “House Down Payment” so you will always see this when looking at your account. Set up automatic withdrawals to this account when you get paid. For example, if you need to accumulate $9,600 ($7,000 down payment plus a little extra for all the other expenses that come with buying a home), a couple should set up the following automatic payments:
- To reach their savings goal in 1 year, each should contribute $400/month.
- To reach their savings goal in 2 years, each should contribute $200/month.
- If they get any income tax refunds, they should put some of the money into this account to help them achieve this goal faster.
Get your credit in tip-top shape.
Here is a checklist of things to do:
- Get your credit report at www.annualcreditreport.com. Everyone is entitled to get a free copy of their credit reports from each of the three credit reporting agencies (Experian, Equifax, and Transunion) every twelve months. Checking your credit yourself is a soft inquiry and will not hurt your credit score.
- Make sure there are no errors on the credit reports. Take steps to remove errors (follow directions on screen). Make sure all credit accounts are in good standing.
- Find out your credit score. There are a number of ways to get free credit scores now. Check at your bank or on your credit card statement. The higher your credit score, the lower the interest rate you will get on your mortgage.
- Don’t take out any loans (i.e., new car) six months leading up to applying for a mortgage. Too many hard credit inquiries will hurt your credit score.
- Do some “browsing” for a new home. But when you are ready to buy, try to get pre-approved for a mortgage first. This will make it easier to jump on the house you want if the real estate market gets tight and puts you in a better negotiating position.
Don’t forget about the other costs of home ownership.
Your mortgage payment should not exceed 20 to 30% of your gross income before taxes. Try to shoot for the lower end of this range, because there are other costs to home ownership such as:
- Homeowners insurance
- Property taxes
Costs can add up quickly if you are not careful.
Want to learn more? Join me for a free 30-minute webinar Buying a House without a Credit History on November 16 at 3:30 CST. Click HERE to register.