Getting a Home Mortgage
It's not unusual for people to get so excited about buying their first home that they rush into the purchase and make financing decisions that they regret later. Buying a home is one of the most, if not THE most, important purchase decisions of your life. Don't rush it. Take your time and make a smart decision.
Before completing a mortgage application or even strolling through an open house, make sure you are prepared for the mortgage application process. You’ll need to know your credit health and monthly budget to determine how much you can afford to spend.
Your Credit Health. Your first step is to obtain your free credit report and check it for errors. You'll need to pay a small fee (less than $10) to see your credit score. Your estimated FICO credit score should be least 675, and preferably above 700. If you have a lower score, your interest rate may be higher and/or it may be difficult to get an approval. If your score is low, we suggest that you work on improving your credit score before shopping around for a mortgage. Otherwise, your mortgage payment will likely be significantly higher.
Your Monthly Budget. The next step is to create a budget to document your monthly income and expenses. Before you apply for a mortgage, you'll need to gather pay stubs and up to three years of tax returns. Mortgage underwriters will also ask to see your monthly expenses, including your outstanding debts such as credit cards, car payments, and student loans. Also, large recurring monthly expenses (like an auto loan) may affect your chances of getting approved for a mortgage. Avoid taking on a new loan payment prior to applying for a mortgage.
Determining How Much You Can Afford. Before you ever speak to a realtor or mortgage officer, determine how much house you can comfortably afford. Realtors, lenders and your own desires may try to tempt you into buying a home that costs more than you can afford. This is your decision and you must feel comfortable with it. A good guideline is that your total housing payment (including taxes and insurance) should be no more than 28 to 35 percent of your gross (pre-tax) income. For example, if together you and a co-buyer have a combined salary of $75,000 a year, your maximum monthly housing payment should be no more than $1,750 to $2,188. Another approach is to allocate no more than 35 percent of your net (take home) pay for housing.
Selecting a Mortgage Company
Now that you know how much you can afford, you need to decide where to shop for a mortgage loan. Large banks, community banks, credit unions, mortgage lenders, mortgage brokers and online lenders all offer a variety of loan products.
Research rates. Start by researching rates online. On Bankrate.com, you can find the current average national mortgage rates, along with a list of online lenders to research. Also research local banks and credit unions by calling or visiting their websites. You may want to ask friends, family or a realtor to recommend a lender.
Meet with the lender. After you identify a preferred lender that offers competitive rates, meet with the lender to get a feel for the person you'll be working with. Your mortgage advisor must be knowledgeable and trustworthy. Someone who will guide you toward the right loan, always keeping your budget and best interest in mind.
Choosing a Mortgage Product
There are home loans for every type of borrower, but not every home loan will be right for you. Interest rates can be fixed or adjust over time. Down payment requirements can vary from 0 to 20 percent. Some loans only require payment on the interest of the loan. Other loans can require a large balloon payment after a specific period of time. There are more loan choices than ever, which is why you must be so careful to select a loan that is right for you.
Buyer beware. Remember the phrase “buyer beware.” It's your responsibility to fully understand the loan terms, which can be very complex. Do not be afraid to ask questions about items you don’t understand. With all the options available, it can be difficult for a first time home buyer to find the right loan. Consider talking to a non-profit housing counselor, who can help you to understand your loan options and which may be best for you. Your lender has a financial interest in selling you a loan, but a housing counselor is neutral and can give unbiased advice.
Watch out for payment increases. Avoid a mortgage that may cause problems with your budget in the future. For example, let's say you are considering a 3-year adjustable rate mortgage that offers an affordable payment. It may be tempting, but you need to consider what your payment will be in three years. After 36 months, your interest rate will adjust and your payment could go up 25-30 percent. Will you be able to afford an increase like that? It’s always prudent to consider a 30-year fixed mortgage. You are essentially locking in an interest rate for 30 years, which will give you the safety and comfort of a fixed principal and interest payment.
Calculating your monthly payment. Understand that your monthly payment will be higher than the cost of your principle and interest payments. Additional variables such as property taxes, the cost of home insurance, private mortgage insurance (PMI), and any condo or association fees will increase the amount of your monthly payment. Again, a good guideline is that your total housing payment (including taxes and insurance) should be no more than 28 to 35 percent of your gross (pre-tax) income.
Determine the size of your downpayment. How much can you afford to put down in a lump sum? In today’s market, it is standard for the mortgage lender to require at least a 20 percent down payment for a conventional loan. VHA loans require a much smaller down payment (generally 3.5%), but the interest rate will likely be higher.
Buying a house is a big financial commitment. If you're patient and disciplined about following the steps above, you'll be well on your way to making a smart home buying decision.