When a new client was referred to me (in my former career as a mortgage loan officer); the most popular first question was “How do I start the home buying process?” It can seem odd to have this confusion with all the available information online; but I think that might be the very reason. If you don’t know where to start; how do you sift through all that information to find what should be the first few steps? Here are five easy steps you can take today to move toward your goal of home ownership.
#1 How Much Can You Afford?
Lenders are your best source for how much of a mortgage you might qualify for; but that is not always what YOU can afford. As much as even the word “budget” can make us groan; you really have to start there. Even as simple as a piece of paper, a pencil and a calculator can be the place to begin.
Figure out where your income goes every month. Is there any money left over at the end of the month? If this is your first house; chances are your house payment will be more than you are paying now for rent. If there is no money left at the end of the month now; you should look at your spending habits to where you can find that extra money. Cut back on dining out? Reduce your subscriptions to cable, Netflix, Hulu, etc.? Perhaps you have a big car payment and, while you love the car, you can’t live in it, right? Downsizing your car so your payment is lower, or gone, is a great way to find the money for a new house payment.
I strongly urge you to know this number BEFORE you visit a lender so you won’t be tempted to go higher. Just because a lender says you qualify for a $3,000 house payment doesn’t mean you want to pay $3,000 every month when you know that number is $1,000 over your comfort zone.
Check out this blog post for more information AND a free downloadable budget worksheet.
#2 Do You Have Enough Cash To Start the Home Buying Process Now?
The majority of first time home buyers believe you need at least 10% down to buy a home. In fact 39% believe you need more than 20% down; according to a study done by the National Association of Realtors in 2017, “The Big Down Payment Myth.”
The truth is there are several zero down payment loan programs; occasional offerings of down payment assistance programs and it is standard FHA to offer a 3.5% down payment. The 20% down myth may be perpetuated or confused with the requirement that you would be required to pay mortgage insurance premiums with less than 20% down.
Obviously the more you have to put down; the lower your payment will be. Quite often the interest rate could be better as well, but don’t let a small down payment stop you from moving forward.
Acceptable down payment funds can come from more than your savings. Depending upon the loan program, you may be able to use:
- Family Gifts
- Borrowed Funds (typically secured by an asset; like your 401K)
- Sale of an asset such as an automobile – or some other asset you can document ownership and market value
- Frequently you may find down payment assistance programs available.
Keep in mind that there is more to the cash requirements than just down payment. Closing costs can typically run 2.5 to 3% of your sales price. For example, on a $200,000 home you could expect to pay approximately $5,000 in closing costs. You can negotiate with both your Seller and your Lender for credits to help offset this additional cash requirement.
#3 Is Your Credit Score Adequate?
Credit scores are a BIG deal; not just in getting a mortgage; but your insurance premiums for homeowner’s insurance and for mortgage insurance as well. It will affect your interest rate as higher credit scores command a lower interest rate. How much it affects the terms of your loan – or your qualification – will depend on the loan program and the lender.
It is very important to get your credit history in order BEFORE you see a lender. Once the lender pulls your credit report; that score is usually what they will have to use – good or bad. They will pull your credit report up front and not leave you any room to improve the score. Improve it first! I can’t stress enough how crucial this is in starting the home buying process.
#4 What Paperwork is Required For a Pre-approval From Your Lender?
Be prepared to have your financial life become an open book, at least during the time you are working with a lender to secure a home loan. Mortgage lending continues to be a heavy on the paper. It can feel like you are “guilty” until you can prove your innocence with a peice of paper (or a PDF version).
Income, credit and cash will have to be proven on paper. The amount of paperwork is primarily dependent on your chosen loan program and your qualifications for that program. For example, if you have a low credit score, be prepared to provide more documentation than if you have a high credit score. If you are self-employed, be prepared for more paperwork. If your cash is coming from more than a savings or checking account, be prepared for more paperwork.
Here’s a link to the most commonly requested documents that your lender may ask for. I would recommend gathering them up and having available BUT let your lender ask you for the documents that they will need. In other words; don’t provide them with more than they need. Here is why …
Sometimes a document you give the lender may contain information that opens the door to more documents and/or explanations. If you give the lender a bank statement for an account that is not needed to prove your available down payment funds; that statement could contain an activity that the lender will then need to further document. Let’s say, for example, your Grandmother put $500 into your account one day when she visited the bank. She made the deposit with cash. Depending on the lender, loan program and your qualification; that $500 would be considered “unsourced” money and could throw up red flags. Wait for your lender to ask you for what documents they need.
#5 How Do You Find a Great Lender and Realtor?
I am sure you’ve noticed there is NOT a shortage of lenders and Realtors, yes? I think you’d be hard-pressed to find an industry that markets more than the real estate industry. How do you weed through all of that to find who is a good fit for you to work with? Let me help you with a couple good tips.
All Lenders and Real Estate Companies are not created equal. However, one thing that I’ve observed over the last 40+ years in this industry is great loan officers and Realtors don’t usually work for crappy companies! Something else you may not know – loan officers and Realtors are sales people. Yes, even your loan officer is on some type of commission compensation. Let’s look at them separately.
When it comes to choosing a lender in the home buying process; don’t make the mistake of focusing only in the interest rate. The problem with that approach is you can typically only secure an interest rate AFTER you have chosen the lender and submitted a loan application. Interest rates change. In fact, they can change numerous times throughout a single day when events in the economy are creating havoc in the financial marketplace.
Get a few referrals from friends and family. Call that lender and interview the loan officer. It is the loan officer that can get you a good deal – or no deal – in the process. Here’s a free download for you of a loan officer interview checklist. Don’t be afraid to use it. After all, you are seeking to borrow hundreds of thousands of dollars -it’s a big deal!
Choosing a Realtor is a very similar process. I found this article for you from Nerdwallet that provides good tips to review. Keep in mind that as a buyer you most likely will not have to pay the Realtor as their commission typically comes from the seller. Interview several of them as you will be spending A LOT of time with this person!
I hope you’ve found this information helpful. Please feel free to leave any questions or comments.
I know it seems like a lot; but when you start the home buying process you are beginning a journey. Pack your bags with the right stuff – fill up the tank – and get started today!