Successful homeownership starts with avoiding mistakes
Everyone makes mistakes. But in home buying? Those mistakes can cost you dearly.
Not only can they mean more in costs (think tens of thousands more), but they can also hinder your mortgage loan, throw off your closing or — in some cases — even make you lose your dream home altogether.
Want to make sure you’re on the right track for your first home purchase? Then avoid these all-too-common first-time buyer mistakes.
1. Buying more house than you can afford
Though getting pre-approved for a mortgage can help you determine your maximum loan amount, you really want to focus on your monthly payment. Experts suggest spending no more than 30 percent of your monthly income on housing, so sit down and do the calculations.
After adding up your income, your spouse’s and any other earnings you take in each month, what does 30% come out to? You can also use a mortgage calculator to home in on this number.
You’ll also need to factor in the extra costs of homeownership. Unlike when renting, you’ll need to cover property taxes, homeowner’s insurance, hazard insurance, repairs, maintenance and utilities. Depending on your down payment amount, you might need private mortgage insurance as well. These all add both monthly and annual costs to your bill.
Here are a few tips for minimizing mistakes during your calculations:
- Ask your agent and lender for help. Your agent should be able to get you accurate property tax and utility information, while your lender can breakdown the full estimate of costs you can expect each month.
- Shop around for insurance. Homeownership quotes vary, so get quotes from a few different companies.
- Start saving for repairs and maintenance now. Stow away some cash in a rainy day fund for general upkeep and repairs. You can expect to pay about 1 to 3 percent of the home’s purchase price in these costs annually.
And remember: Just because a lender says you’re qualified for a $500,000 loan doesn’t mean you’ll be able to comfortably make the payment that comes with it. Make sure you have an accurate estimate of your monthly mortgage costs before moving forward with any purchase.
2. Not shopping around for your mortgage
Getting quotes from multiple mortgage lenders is crucial when you’re looking to purchase a home. Failing to do so can mean more up-front fees, a higher interest rate and, most importantly, a more expensive home buying process as a whole.
Mortgage agency Freddie Mac recently reported that buyers can save at least $3,000 over the life of their loan by calling five lenders instead of one.
Even if your agent or a trusted friend refers you to a lender, use that as a starting point — not a compass. Talk to two or three other lenders and get quotes from each, comparing the individual fees, interest rates and other costs associated with the loans they’re offering you. You should also factor in things like responsiveness, overall customer service and other intangibles, as these play a big role in your mortgage experience as well.
As a whole, buyers miss out on millions of dollars by not shopping around for their mortgage loan. Don’t let yourself be one of them.
3. Starting the home search before getting pre-approved for a loan
Pre-approval is an important step in the home buying process. First, it gives you a price range to start shopping in. Armed with your pre-approved maximum loan amount, as well as the monthly payment you’re aimed for (see No. 1 above), you can hone your list of potential properties and really dig into the search.
Being pre-approved for your loan also sets you apart from other buyers and gives sellers confidence in your offers. If your local market is particularly hot or there are many bidders on a home you’re considering, a pre-approval letter can mean all the difference.
4. Delaying your home purchase just because of the down payment
Down payments tend to scare people. Tens of thousands of dollars all at once? How will you ever afford it?
Truth be told, most people don’t put down nearly that much. The old 20 percent down wive’s tale is just that — a myth. While a 20 percent down payment will help you avoid private mortgage insurance, it’s not required by any means to purchase a house. In fact, you can purchase a home with as little as 3 percent down (or in some cases, no down payment at all).
Waiting to buy a home until you have 20 percent saved up can be a dire mistake. Not only will trying to save that much limit your cash flow, but it will also impact how much cash you can put toward retirement, your children’s college tuition, paying down debts and other important financial goals. It also means more time in the ever-costly rent race.
If you’ve been delaying homeownership, look into low-down-payment mortgages, down payment assistance programs and other options before pushing your dreams back any further.
5. Not learning about FHA, VA and USDA loans
A conventional loan might be the most common, but that doesn’t make it right for everyone. Conventional loans come with the most stringent credit and income requirements of all and, in many cases, require bigger down payments, too. But there are other options.
If you’re cash-strapped, have less-than-perfect credit or just want lower upfront home buying costs, you can also look to:
- FHA loans - FHA loans are mortgages backed by the Federal Housing Administration. They require down payments as low as 3.5 percent and need only a 580 credit score to qualify.
- VA loans - VA loans, or Veterans Administration loans, are mortgages designed for military members, veterans and their immediate families. They require no down payment (and sometimes no closing costs) at all.
- USDA loans - USDA loans are mortgages guaranteed by the U.S. Department of Agriculture. They for use on homes in designated rural areas and require no down payment whatsoever.
The right option for you depends on your income, credit score, down payment savings and other financial factors, as well as where you’re looking to buy. A mortgage broker or loan officer can help you determine which option is best for your scenario.
6. Not providing a paper trail for gift money
If you’re expecting financial help from your parents, grandparents or some other loved one in your home purchase, you’ll need to get a plan together early. How much are they able to contribute? When can they write you a check or transfer the funds? Are they willing to document the entire transaction going in and coming out of their account?
Not knowing these details up-front can throw off your mortgage loan and your home purchase entirely. The donor should be clear on how much they’ll be giving you and when, as well as how to fully document the gift and write a gift letter for your lender.
7. Failing to negotiate a homebuyer rebate
Real estate agents, for the most part, operate on a commission-based model. When a home sells, a 6 to 7 percent commission is paid to the listing agent, who then gives half of that to the buyer’s agent.
Though this has long been the norm, the days of full-service real estate agents are on their way out. Many buyers are scouring listings, attending open houses and even scheduling showings all on their own, only requiring an agent to help with the negotiations and contract part of the phase.
These rebates typically come out to around 1 percent of the purchase price — or $2,000 on a $200K home.
Because of this reduced workload, many agents are willing to give a portion of their commission fees back to the buyer via what’s called a commission rebate.
These rebates typically come out to around 1 percent of the purchase price — or $2,000 on a $200K home.
Though some real estate firms and agents advertise these rebates openly on their websites and in marketing materials, you might need to negotiate with your agent in order to secure one. Keep in mind that rebates aren’t available in Alaska, Alabama, Iowa, Kansas, Louisiana, Mississippi, Missouri, Oklahoma, Oregon and Tennessee. In all others, though, it’s fair game, and it could mean more cash for closing costs, moving expenses, new furniture and more.
8. Not checking your credit score first
Your credit score will play a big role in your home purchase — and how much it costs. So before starting the home search, pull your annual credit report from one of the three major credit reporting bureaus, Experian, Equifax or TransUnion. You might also check with your bank or credit card company. Many offer credit monitoring services and can help you check your credit score for free.
If your score isn’t great or could just use a little improvement, consider delaying your home purchase a few months to work on your credit. Even a 20-point boost can mean a significant reduction in interest rate — not to mention lifetime costs — of your mortgage.
Here are some ways you can start improving that credit score:
- Pay down existing debts and credit card balances.
- Avoid applying for any new cards or loans
- Prevent missed payments by automating all your bills
- Don’t close accounts once they’ve been paid off
You should also report any errors you find on your credit report. Sometimes, correcting these issues can increase your score drastically.
9. Putting too much or too little down
Determining the right down payment to put down is tricky. If you put down too little (say an FHA loan’s minimum of 3.5 percent), then you’ll get stuck paying for private mortgage insurance, which can be as high a 1 percent of the loan amount annually. On conventional loans, you can cancel mortgage insurance once you reach 20 percent equity in the property, but with FHA loans, you can’t. You’re stuck with the extra cost until you sell the home or refinance your mortgage.
On the other end of the spectrum, you can also pay too much. Though putting 20 percent down can help you avoid mortgage insurance, if it makes you completely cash-poor and depletes your savings, it might not be the best financial decision. Homeowners need a solid rainy day fund in case of unexpected repairs, maintenance or other costs.
10. Buying a home that won’t suit your needs long-term
Buying a home is expensive — and so is selling it. When at all possible, you want to choose a property that’s as best-suited to your long-term needs and goals as possible. Planning on more kids or pets down the line? Factor that in. Want to build a pool or vegetable farm out back someday? Make sure that’s on your checklist.
Depending on local taxes and customs, it could cost you up to 10% of your home’s value to sell. It’s incredibly costly to sell a home, so make sure you can hang onto it for at least 10 years (that could mean living it in or renting it out later). Here’s what it might cost to sell:
- $150,000 home: $15,000 to sell
- $250,000 home: $25,000 to sell
- $350,000 home: $35,000 to sell
And so on.
If you sell a home too quickly, you might even have to pay out-of-pocket to unload it.
But you don’t have to plan to live in the house forever. You might also consider renting it out when the time comes. This can help you avoid the tedious listing and selling process, as well as give you cash for purchasing your new property.
11. Getting too emotional about one house
You should feel excited and passionate about the home you’re buying, but don’t take it too far. Getting too attached to a house can make it hard to strike a good deal — especially if there are other bids on the table. You don’t want to get stuck offering $20K over just because you fell in love with a place. That can be risky for many reasons, including:
- Your appraisal might not measure up. That means your lender won’t cover the full purchase price, and you’ll be left making up the difference
- You might stretch your budget too thin. You put the home on your radar because it was in your price range. Offering too much over can mean a drastically higher monthly payment and seriously tight finances.
- You may not make your money back. In the event you need to sell the home quickly, you could actually lose cash on the transaction due to your extravagant offer.
If you’re not able to make that “dream” home work at a price you can afford, then it’s time to move on and find a better property more suited to your needs and financial situation.
The bottom line
Avoiding these first-time buyer mistakes is only the beginning, though. When you’re buying a home, there a lot of moving parts. Each one impacts the other, and any small change or slip-up can have serious effects on your ability to purchase a property. Before diving in, make sure you’re clear on your financial scenario, shop around for the right lender and get pre-approved for your loan. This will give you a solid foundation as you begin your home buying journey.