Are you a first time home buyer wondering where to start on your journey to homeownership? Choosing a home and mortgage that fit your needs, individual situation, and personal preferences is vital to your overall satisfaction with one of the greatest financial and life-changing decisions you will make.
To help you, we've put together a guide of tips to take you from dreaming of homeownership to holding the keys to your new home.
In this guide, you'll find:
- Checking Your Credit Score
- Cash for a Down Payment
- What's a Reasonable Monthly Payment?
- Determining an Affordable Home
- Affordable Houses in Your Desired Area
- Shop For Your Mortgage and Save Big
Checking Your Credit Score
Your creditworthiness and score play a huge role in whether or not you will qualify for a mortgage, and determine which type of loan you can use to get a mortgage. Three things will happen with a higher credit score:
- It will be easier to qualify for a mortgage.
- The interest rate you will lock in for your mortgage will be lower.
- Different loan types and programs will be available to you.
Not sure what your credit score is? Get your free credit score from LendingTree!
5 Ways to Improve Your Credit and Qualify for a Mortgage
If you find out your credit score is not ideal to qualify for a mortgage, or that your credit history is not enough, here are five actions you can take to improve your credit.
- Reduce DTI: Debt-to income-ratio is the amount of debt you have compared to your income. Paying down the balances on loans and other debts that you have will reduce the percentage of your overall DTI. This is an important element; lenders usually will not approve those with over a 43% DTI.
- Be aware of being an authorized user on credit cards: Monthly minimum payments are calculated into your DTI from any credit card that you are an authorized user on. As you work to improve your credit to qualify for a home, let main cardholders know of your plans. You don't want their shopping spree to increase your DTI.
- Payment history: Marking your calendar, using your phone for payment reminders, and setting up auto pay with your bills when possible are three great ways to making payments on time. A positive payment history without late or defaulting payments will go a long way in increasing your creditworthiness.
- Unused credit cards: Keep unused credit cards open. It may seem like a good idea to close them, but doing so will reduce your overall credit limit, and end up hurting you more than helping you.
- Variety is your friend: If you only have credit cards, adding variety and flavor to the types of credit you have will help. Personal loans, auto loans, student loans, and installment loans can all strengthen the variety of your credit.
How Much Cash Do You Need for a Down Payment?
When buying a home, you need to have funds for a down payment. The type of home loan program you are using to buy your home impacts the percentage of a down payment you will need to have on hand.
Conventional mortgages usually require a 20% down payment. Fannie Mae and Freddie Mac both have housing loans that require 3% and 5% down payments.
5 Steps to Figuring Out How Much Savings You Have For a Down Payment
When calculating and figuring out savings you have for a down payment or how much you will need, here are five steps to follow:
- Talk to a lender: Find out how much of a loan you may be able to qualify for. This will enable you to estimate how much of a down payment you will need.
- Timing: When do you want to buy and move into your new home? Do you have six months to save or five years? This will help you know what percentage of a down payment you may be able to save and, if the percentage is lower than 20%, it will also help you determine the best loan program to use for your new mortgage.
- Open a savings account or certificate of deposit: Saving for a down payment requires safe and secure investment options, such as a savings account or certificate of deposit.
- Pay yourself: If you choose to open a savings account, each payday, don't just pay your bills, pay yourself! Set up an automated transfer from your checking to your savings that will grow your funds for your down payment.
- Gifts and bonuses: Did you just get your tax return, a bonus from work, or a monetary gift for your birthday? Live on your income and act as if the bonus or gift does not exist, then deposit it into your savings account.
Keep in mind, when buying a home, you will be in charge of its upkeep, repairs, and maintenance. It is important to maintain a cushion of funds that can be used for maintenance and repairs. Because of this, you do not want to empty out the savings account you are building by paying for a down payment on a home.
If you need assistance with your down payment, you have options . . .
Down Payment Options
There are many pros and cons to an FHA loan. If you're looking for a home loan where your down payment can come in the form of a gift and the down payment requirement is only 3.5 %, then an FHA loan may be the best option for you.
If you don't have the required down payment, and receiving it as a gift is not a possibility, there are many programs and options to help you as a first-time home buyer. Check out this guide for more information. If you choose to use one of these programs to alleviate some of the financial burdens of needing a down payment, know that you may be required to pay additional mortgage insurance. This may result in a slightly higher mortgage payment each month.
3 Ways to be Considered a First-Time Home Buyer
Qualifying as a first time home buyer can be beneficial—it allows you to utilize many special programs. There are three ways you may be considered a first time home buyer:
- Never: You have never bought a home before.
- Three Years: The time between selling your last home and buying a new home has been at least three years.
- Divorce: You are recently divorced and are looking to buy a new home.
Identifying a Reasonable Monthly Payment
Buying a home is one of the biggest financial and life altering choices you can make. If the payment you need to make each month is financially sound, you are looking at an investment that can stay in your family for generations. If, however, the payment you need to make is not financially sound, you will be causing yourself financial stress and, before you know it, you may find yourself defaulting on your mortgage.
No one wants that! When identifying a reasonable home payment for your home, you will need to have a full understanding of your monthly expenses and income. Essentially, you are asking yourself— what can I safely pay each month on a monthly housing payment without experiencing any undue financial stress?
Here is a three-step process to answering that question:
- Gross income: How much do you make before taxes?
- Net income: How much do you bring home on a monthly basis?
- Expenses: Calculate all your bills and debts—utilities, credit card, auto student loans, food, and hobbies.
A general rule of thumb in calculating a safe monthly mortgage payment is: do your total expenses, including your mortgage payment, exceed 28% of your monthly gross income? If the answer is yes, then the payment may be too high.
If your proposed monthly expenses, including your mortgage payment, are 28% or less of your overall monthly gross income, then you are well within a safe and reasonable monthly payment for your home. Some experts believe up to 36% debt-to-income ratio is acceptable, which may allow you to purchase a more expensive home. Just keep in mind, the higher you debt-to-income ratio, the riskier position you place yourself in.
An Affordable Home
Let's say you make $37,000 a year and you have monthly expenses of $450. To keep your debt-to-income ratio below 28%, your total monthly expenses should fall below $863 ($37,000 x .28). This puts your house payment at a little over $400 a month ($863-$450). If you stretched it, bringing your debt-to-income ratio up to 36%, you could increase that house payment to around $660. Assuming a 30-year repayment at 4% interest, you could purchase a house between $60,000 to $100,000. For these calculations, it's great to use a home affordability calculator.
Finding a House You Can Afford in Your Desired Area
Many of the decisions you will make in choosing a new home will be exciting—are you looking for a house, town home, condo, manufactured home, or duplex? What is your vision of your dream home? Finding a home you wish to buy that you not only desire but can also afford can be a challenge.
This is why Realtors are not only there to help you when you are trying to sell your home, but also when you are trying to buy one as well. Here are seven steps to consider:
- Wishlist: Use this home buying wishlist from HUD to help determine the kind of home you are looking to buy and what you want in your dream home.
- Get pre-approved: Every Realtor will take your desire to find and buy a home much more seriously if you are already preapproved for a mortgage. LendingTree can help you get pre-approved today.
- Search for a Realtor: Ask family and friends for recommendations and read reviews of Realtors online.
- Interview Realtors: When you have a list of potential Realtors that you are interested in working with, interview them and find the one that best fits your needs and personality.
- Go through home listings: Once you have a Realtor and know what you are looking for, then the real fun begins! Go through home listings, choose homes to go see, and determine if you can imagine yourself living in them.
- Make an offer: When you find a home that not only meets your needs but also your wants, place a bid on the home and wait to see how the seller responds to your offer.
- Complete the process: After an offer you place is accepted, complete the home buying process and, on closing day, receive the keys to your new home!
You do not want to go over your budget to buy the home that is more desirable to you. Being house poor, just like defaulting on a mortgage, is something no one wants to experience. In fact, being house poor can snowball into foreclosing on your home. The concept of having a huge home with four bedrooms and a large yard no longer holds its appeal if it is the reason you cannot afford your utilities or your student loans.
On the off chance that what you can afford and qualify for does not equate to your dream home, you may want to wait until you have a larger down payment for a more desirable home.
Shop For Your Mortgage and Save Big
Everyone is looking for the best mortgage. Shopping around and negotiating will be your two greatest assets. Don't take the first mortgage that you are offered. When comparison shopping to save big on your mortgage, there are three factors you should look at:
- Mortgage rates: What rate is the mortgage being offered at? Take a look at today's mortgage rates.
- Lender fees: What fee amounts are being charged for the mortgage?
- Discount points: Does the mortgage come with any discount points?
LendingTree offers a fast way to compare shop mortgage loans.