Getting a mortgage is most likely the most expensive purchase you will ever make. Because of this, it's best to be as prepared as possible before starting the home buying process. Whether this is your first mortgage or your third, here are seven things you should know before getting a mortgage.
7 Things You Should Know Before Getting a Mortgage
Your credit score
Your credit score will determine the interest rate you are able to qualify for. If your score falls in the "Excellent" range (740-850), you will qualify for the best interest rate possible. Knowing your credit score and what type of rate you will qualify for beforehand can help you determine how much house you can actually afford. With a higher interest rate comes a higher monthly payment, so this should be one of the first things you determine.
You can view your credit score for free on My LendingTree.
Next, determine how much you can comfortably afford to spend on a home. Most mortgage lenders will not want your debt-to-income (DTI) ratio to exceed 43 percent, including your new mortgage. To calculate your DTI, divide your monthly debts by your monthly gross income. If you have $1200 in debts (car payments, student loans, credit card payments, etc.) and $5000 in gross monthly income, your DTI is 24 percent. Now, say you have a mortgage payment of $900. Your debts are now $2100, making your DTI 42 percent. This means you could qualify for a mortgage payment of right around $900 per month.
Even if your DTI is low, you want to determine for yourself how much you can comfortably afford to spend on a home. You might have daycare expenses, for example, which are not viewed as a debt when calculating DTI. You might travel frequently or spend a significant amount of money on entertainment each month. Make sure to include these expenses when figuring out how much to spend on a home.
Use our mortgage calculator to see how much you can afford on a home.
The size of your down payment
The amount of money you can put down will come into play when it comes to getting a mortgage. An FHA loan requires a low down payment of just 3.5 percent. If possible, put 20 percent down to avoid paying mortgage insurance, which now lasts the life of the loan (however, you can always refinance your loan once you have built up 20 percent equity).
A strong savings account is necessary in addition to your down payment
Do not use all of your liquid cash as your down payment. After your down payment, you want to have ample savings left as a cushion. Something could break on the home, you might need new furnishings, you could lose your job and you'll need to pay for moving expenses.
The type of loan you want
Do you want a 15-year loan or a 30-year loan? A fixed rate or a variable one? There are pros and cons to each, but if you can swing it, a 15-year fixed-rate loan will cost you the least amount of money in interest (not factoring in any future refinances).
There are also different types of home loans, including conventional loans, FHA loan, VA loans, jumbo loans and conforming loans. If you have a small down payment, an FHA loan will be your best bet, as those loans only require 3.5 percent.
It pays to shop around
Before getting a mortgage, you should know that you will save potentially tens of thousands of dollars by shopping around and making sure you get the best deal. Most likely, your real estate agent will recommend a broker to you. Go ahead and get a quote, but also get a quote from your local bank or credit union and online lenders. At LendingTree, we do the shopping around for you by finding the best lenders for your unique situation. Simply fill out one form and let us do the work.
When comparing quotes, make sure to compare apples to apples—meaning closing costs, fees, the interest rate, the APR and the type of loan.
It's best to pay cash for closing costs
While you can usually roll your closing costs in with the loan, it's best to pay for them cash. If you do roll them into your loan, you are using equity in your home to front the costs, and you're paying interest on those costs for the life of the loan. Depending on your loan amount, closing costs can range from a few thousand to $12,000+, with the average being $3,700. When saving for a down payment, factor closing costs into the total amount you'll need to save.
Once you've prepared to get a mortgage, you can contact a local real estate agent and get to shopping. Congratulations!