You’ve got to cover a lot of bases to buy a home safely.
Lining up all the necessary pieces to buy a home can take a lot of legwork. You’ve got to figure out what you can spend, what you want to buy, and how you’re going to pay for it—and not necessarily in that order. It’s a much more involved process than renting. But it comes with a much bigger payoff, personally as well as financially.
If you’re like most people, the key to buying is getting a mortgage, a longterm loan that you can repay over an extended period, typically 15 or 30 years. While there are no hard and fast rules, most lenders use criteria set by Fannie Mae and Freddie Mac, corporations that buy mortgages from lenders, to evaluate whether you’re a good candidate for a mortgage.
The first test asks if you’ve got enough regular income to afford the payments. Lenders say you shouldn’t bespending more than 28% of your pretax income on housing. So if you make $3,500 a month, you can spend $980 of that on your mortgage, taxes, and insurance. Sometimes if you make a big down payment, you can get away with paying a larger portion of your income every month. Or you may qualify for a government sponsored program that relaxes the normal guidelines.
Even if your income puts you within that 28% range for the mortgage you’re looking for, you’ve still got to prove you don’t have too much debt hiding in the background. No more than 36% of your monthly income can go to all of your debts together. That means you can be using $1,260 of a $3,500 salary to cover your mortgage plus your credit card balance, student loans, and any other debt. You can see how interest on cards could be a big problem here—so make sure your spending is under control before you go looking for a house.
A steady job and a good credit history are also crucial to getting through the mortgage process successfully. All in all, if you’re a good candidate, you should be able to afford a house that costs about 2. times your annual salary. If you and a partner or spouse are buying jointly, both of your incomes count toward this standard.
START YOUR SEARCH
If a rough idea of what you can afford is enough for you to go on—and for many people it is—you can jump right into the search by contacting a real estate broker.
Since they have good knowledge of different areas and the properties that are available in them, brokers can make your search a lot easier. But as you’ll probably know if you’ve dealt with brokers while looking for a rental, they’re trying to get the highest prices possible for the sellers they represent, which means you could end up paying top dollar.
Brokers usually show you only what you can afford, since they’ll lose a sale if you don’t qualify for what you’re looking at. But they won’t negotiate actively on your behalf to get a lower price. For that, you need a buyer’s agent, whose job is to get you a good deal on the purchase price or better contract terms.
SHOW ME THE MONEY
It can be a little nerve-wracking to go house hunting without knowing the size of the mortgage you’ll ultimately qualify for. One way to get around that uncertainty is to try to be preapproved for a mortgage. That means you apply for a mortgage before you start looking for a house, so that you’ll know whether you’ll be able to borrow, and how much.
There’s not always an opportunity for preapproval—lenders usually offer preapproved mortgages only when they’ve got a surplus of cash to lend. But when they do, it can be a great way to make your shopping process a little easier.
As you’re looking for mortgages, make sure you know which kind will work best for you. If you want to be able to budget for your current and future payments, go for a fixed-rate mortgage. That way you’ll always know what you owe, no matter what’s going on with your finances or the economy at large. For example, if you lose your job, or go back to school, or if anything else happens that would change your cash flow, at least you can be sure that your payments won’t go any higher.
If it’s more important to you to have low payments early on—if you have a lower-paying job than you expect to have later, for example, or if you have a huge student loan burden—think about an adjustable-rate mortgage (ARM). The rates on these mortgages usually start out lower than on fixed-rate loans, which may mean you can afford a somewhat more expensive house.
The internet provides a fast, convenient way to do research and compare mortgage lenders.
And if you apply online, you can track the progress of your mortgage whenever you want. The only advantage the online mortgage process may not provide is cheaper interest rates. Virtual banks are potential mortgage sources, as are web based loan companies and the online arms of traditional lenders.
You could end up paying more with an ARM than with a fixed-rate loan, though, if interest rates go higher in the future. But you never know—you could always end up paying less.