Are you getting ready to buy your first home? If so, you’re probably facing a myriad of emotions from trepidation to excitement. Purchasing a house is a huge investment and commitment, but it’s also very rewarding — if you don’t get in over your head. Some buyers make the mistake of getting too excited and not being realistic about the type of house they can afford.
If you end up with a mortgage payment that’s too high, you could become “house poor.” This is when you barely bring in enough money to pay your mortgage and can’t afford other things you want or need. Here are five essential financial steps for first-time homebuyers to take so they can make a wise purchase that’s within their budget.
1. Determine Your Home Buying Budget
Before you even think about going house hunting, take the time to sit down and determine your budget. This may seem obvious, but you’d be surprised how many new homebuyers don’t know how much house they can comfortably afford. You need to consider more than just the regular house payment. You also need to include your down payment, closing costs, home insurance premiums (get a home insurance quote to figure out how much you’ll pay), and annual property taxes. Depending on where you choose to live, you may also have a homeowners association fee to pay monthly, quarterly, or annually.
When figuring out your budget, it’s wise to follow the 28/36 rule. Most lenders use this rule to determine how much of a mortgage a buyer can afford to pay. It specifies that you shouldn’t spend any more than 28% of your monthly income on your mortgage payment. You also shouldn’t spend more than 36% of your monthly income on total debt payments. To simplify things, you can use an online home affordability calculator.
2. Stick to Your Budget
Adhering to a budget can be harder than expected when you’re shopping for your first home. It’s easy to get starry-eyed about properties you love but can’t realistically afford. Additionally, sellers can be very persuasive when they’re desperate to sell their current home and move to a new place.
If you want to avoid getting trapped with an uncontrollable home budget, think through all the expenses you’ll have. Ideally, you should have an upper spending limit that you won’t exceed under any circumstances. That includes saving for home repairs like a roof leak, investing in appliances like a new mini split, or even buying furniture to fill the space. Whenever possible, stay well below that upper limit to ensure you can live comfortably after making your purchase.
3. Save up for a 20% Down Payment
Want to know how to reduce your monthly mortgage payment and save a big chunk of interest over the lifetime of your loan? Simply put 20% down when you first buy. That can be a lot of money ($80,000 on a $400,000 house). However, the advantages are well worth the time and effort you spend saving the money.
Putting 20% down reduces your monthly payment because you don’t have to borrow as much money in the first place. It also shows lenders that you’re a responsible borrower, which may earn you a lower interest rate on your mortgage. Finally, if you put 20% down on your loan, you can avoid the private mortgage insurance (PMI) requirement. PMI can cost up to 2% of your loan amount annually, so eliminating it can equal big savings for you.
4. Find Out if You Qualify for Financial Help
Many states offer financial assistance programs for qualified first-time homebuyers. The primary goal of these programs is to incentivize young couples and families to put down roots in a particular area. Some states offer down payment assistance programs while others may offer generous tax credits for first-time homebuyers. Many also offer low-interest rate mortgages to new buyers.
It’s worth your time to see if there are any such programs in the area you’re planning to move to. You may need to meet additional qualifications for certain programs, such as low-income qualifications or active-duty military qualifications. Review the first-time buyer programs for your state to see if you qualify for financial help.
5. Get Pre-Approved for a Mortgage
It can be frustrating and embarrassing to finally find your dream home but discover you don’t qualify for a mortgage. If you’ve never purchased a home before, you shouldn’t just assume you’ll be able to get a loan. This is especially true if you have little to no credit or if your credit is quite poor. To avoid wasting your time, or your realtor’s, make sure you get a preapproval letter from your bank or lender of choice.
A preapproval letter can give you peace of mind that you’re financially capable of purchasing a home. It can also let a seller know you’re serious so they don’t end up selling to another buyer who seems like a more reliable choice. Finally, getting a mortgage preapproval can confirm how much house you truly can afford. A lender won’t give you such a letter unless you can prove to them that your income is sufficient to support the proposed mortgage payment.
These essential financial steps can help you stay out of trouble when buying your first home. They can also make the home purchasing process less stressful by giving you confidence in your ability to make a wise investment.
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