These first-time homebuyer tips will help your home buying journey follow a financially responsible path. Purchasing a home is a complex process with many steps, and it’s one of the biggest financial decisions you will ever make.
Homeownership is a big part of the American dream, but it seems like a stretch these days. I’m not saying it’s impossible to buy a home, but it’s a lot harder than it used to be. Inflation, stagnant wages, and sky-rocketing local real estate markets have all combined to make owning your own home more difficult.
Check your credit report
Before you can start the house-hunting and mortgage process, you need to make sure your finances are in order.
Start by reviewing your credit report. You can download a free credit report from Annual Credit Report. Typically, each of the three credit bureaus issues a free report each year, but they’re offering weekly reports during the COVID-19 pandemic.
Use your credit report to look over the debts in your name. You can dispute any inaccuracies, but this is also a great way to create a list of your outstanding debts.
Pay off debt
Some people say you should be completely debt-free before buying a home. I know that’s not always practical or possible… but it’s a good idea to minimize your debt first. Less debt means smaller monthly payments, making your new mortgage more affordable within your budget.
Create a debt payoff plan to make the whole process more efficient and focused. A plan will guide and support you through the possibly years-long journey.
Improve your credit score
A better credit score means you’ll be able to get a lower interest rate on your mortgage. When paying interest for 15-30 years, even a small difference in the interest rate has a large impact on the total cost of financing. The total interest paid is the cost of financing your purchase.
For example, consider a 30-year loan for $300,000. If the loan has a 3% interest rate, you’ll pay $155,332 in total interest (assuming you pay the minimum payment for the entire 30 years). A loan with a 3.5% interest rate costs $184,968 in interest.
Half a percent difference in the interest rate costs you nearly $30,000 more on such a large, long-term loan. That’s why improving your credit score before getting a mortgage can be so beneficial financially.
Like everything else worthwhile, increasing your credit score will take time and a plan. Your credit score is a reflection of your payment habits, so there’s no quick fix.
Basic steps you can take include:
- Make payments on time
- Reduce your credit utilization score (the percentage of available credit you are using)
- Keep old accounts open, for a longer credit history
- Don’t apply for new accounts – having many new accounts or having inquiries into your history can actually decrease your score
The most important first-time homebuyer tip: have a spending plan
Follow a budget now
Before you even start thinking about buying a house, you need to be able to stick to a budget now. Having that control over your current money makes the transition to the new home expenses easier.
It doesn’t really matter what budget method you chose, as long as you’re spending less than you earn consistently. In general, owning a house is more expensive than renting (of course there are exceptions). That means it’s essential to be smart with your money when your living expenses are lower.
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Budget for the future
Next, adjust the budget you’re currently following to account for homeownership. A projected budget will ensure this house is something you can really afford.
A good rule of thumb is to not spend more than 28% of your monthly pre-tax income on housing expenses (mortgage, interest, insurance, property taxes, and HOA fees).
Use this mortgage calculator to estimate your monthly payment. This is just the payment on the loan, made up of principal and interest. Your interest rate has a big impact on the total cost of your purchase, but the monthly difference between rates is minimal.
You can have your homeowner’s insurance and property taxes paid by your mortgage servicer, through an escrow account. Basically, you pay extra each month, the servicer holds onto the funds, then they pay your insurance and taxes when due.
Until you have a property selected, you’ll have to estimate your expenses. Your real estate agent might be able to give you a general idea of property tax expenses. Contact your current property insurance company for an estimate on homeowner’s insurance.
Home maintenance and repair
Owning a home is much more expensive than renting, simply because you, as the owner, must pay for maintenance and repairs. Without a landlord to cover those costs, they can really add up.
Pay attention to the home inspection when you find a house. If the seller isn’t going to cover repairs, you’ll have to. Appliances will need repairs or replacement. The roof will need work eventually. You might need to pay for painting, new flooring, or upgrades before moving in.
State Farm recommends budgeting 1-4% of your home’s value for maintenance each year. The linked article also has estimates of longevity and replacement costs, which will come in handy if you’re anticipating any of those expenses soon.
First-time homebuyer tip: the actual cost of utilities can be surprising. After renting, where some utilities may be covered by the landlord, taking on those costs could bust your budget.
Utilities you might need to budget for:
- Home security monitoring
- HOA fees
- Lawn maintenance/ snow shoveling (are you hiring a service?)
Don’t make yourself house poor
It’s easy to be enticed by a beautiful home, a nice neighborhood, or just the thought of something new. Just remember that being house poor is one of the most stressful financial situations.
Even when you can’t afford your mortgage, you’re still locked into those payments for up to 30 years. It’s much easier to move to a cheaper rental than it is to lower mortgage payments or sell your home.
Depending on the real estate market, you can even end up underwater on your home – owing more than the property is worth. That’s an awful financial situation to find yourself in, which is why it’s so important to not overspend on a home purchase.
If you don’t have the cash to make up the difference between your home’s value and the loan, or if you can’t make your monthly payments, you could end up bankrupt. That will have major, long-lasting impacts on your finances. You can recover from bankruptcy, but it won’t be quick or easy.
Don’t buy a home with monthly payments that stretch your budget. If you can’t afford it, you can’t afford it.
Build your team
First-time homebuyer tips from qualified professionals are going to be the most reliable. A good real estate agent will have insight into the neighborhoods and homes you’re looking at. A knowledgeable lender can help you find and qualify for assistance programs.
A team of qualified, reliable professionals will make the home buying process so much easier and less stressful.
Realtor or real estate agent
A Realtor or real estate agent is the most important team member – they guide you and provide invaluable first-time homebuyer tips tailored to the local market. This person will find listings for you, show you houses, and assist in making an offer on a property.
All Realtors are real estate agents, but not all real estate agents are Realtors. A Realtor is a member of the National Association of Realtors, which promotes higher ethical standards.
Qualifications are less important than personality and knowledge of the local market. A good Realtor/real estate agent will warn you of suspicious properties, find listings that meet your needs and provide insider knowledge during your home quest.
Ask local people who you trust for recommendations, but don’t hesitate to trial more than one real estate agent. Buying a home is one of the biggest financial steps of your entire life, so
You can hire a home inspector of your choosing. Hiring someone qualified protects you. A good inspector should find major issues with the property you’re looking at, and hopefully minor ones as well.
Your real estate agent should have at least a few recommendations for home inspectors.
An individual lender’s personality is less important than their knowledge of and access to different mortgage providers.
You can apply directly to a specific bank or mortgage provider, but that limits your options. Instead, you could with a mortgage broker who will help you find the best interest rate and loan terms. They work with multiple mortgage providers, so they can shop around more easily than you can on your own.
You could end up paying additional fees when using a mortgage broker, so make sure you understand what you’re getting into.
I recommend getting at least 3 estimates, so you can compare interest rates. Loan origination fees can vary greatly as well, so pay attention to the loan cost disclosures.
Your loan will probably be sold to a different mortgage servicer, so don’t get too attached to the bank that has the best fees & rates. The basic terms of your loan will remain the same, but the payer, payment portal, and escrow holder will change.
First-time homebuyer tip: get preapproved
When you find a home you’re interested in, you’ll make an offer. The seller can then accept or reject your offer, or make a counter-offer. You’ll increase the chances of acceptance if you’re preapproved by a lender before making an offer.
Preapproval means that you have applied for a mortgage and been approved for a certain amount, even though you haven’t chosen a home yet. That reassures the seller that you have the financing necessary for the purchase. A seller choosing between two identical offers will probably choose the buyer who was preapproved for their mortgage.
Getting a preapproval also lets you know how much you can borrow and what the approximate monthly payment would be. Just make sure that you can afford the payment – it’s common to be preapproved for a mortgage that is larger than a financially responsible person would choose.
Save up a down payment
A down payment is a lump-sum payment you make on the purchase of your new home, and it’s an amount you don’t have to finance. It helps reduce your loan balance and your monthly payments, plus a large enough down payment will help you avoid the expense of PMI.
Private mortgage insurance
Although some loans can accept less than a 20% down payment, most conventional loans require you to purchase private mortgage insurance (PMI) until you reach that threshold. The fee is added to your monthly mortgage payment.
You can get rid of the PMI once you have 20% equity in your home. To determine your equity, divide your outstanding mortgage balance by the appraised value of your home. You can use Zillow to estimate if you’re close, but you’ll probably need an appraisal to be able to do discontinue PMI.
To avoid PMI altogether, you can apply for certain types of loans (see below) or put down at least 20% as a down payment.
Set aside money for other expenses
Make sure to save some cash for new-home-type expenses. Moving costs, new furniture, painting, even shower curtains are all costs associated with buying a new home. It’s best to pay for those things with cash instead of using credit.
Don’t take on new debt
Once you’ve improved your credit score, saved a down payment, and gotten a preapproval for a mortgage…. Don’t take on any new debt.
You may be tempted to finance new furniture or appliances, but doing so before closing on the new loan might get your application rejected. Lenders look at your income to debt ratio, a measure of how much of your monthly income is allocated to debt payments.
Having too much other debt for your income will make the lender reject your mortgage application, even if you were preapproved. Big financial changes like this are not recommended during the homebuying process
Obviously, I don’t recommend taking on new debt, ever, but at least wait until your mortgage is signed. The risk of losing that loan isn’t worth buying a new couch early.
Look into assistance programs
Your real estate agent and your lender can help you find programs you qualify for, but it’s always good to do your own research too.
Your state, county, or city may offer first-time homebuyer assistance programs. Ask your real estate agent and lender if they know of any. Next, hit up Google. Smaller programs like these will have a better chance of acceptance.
The federal government has promoted homeownership for years, and that’s trickled down to local entities too. It’s a smart financial move to take advantage of any program you qualify for.
In Montana, homebuyers can participate in the Montana Mortgage Credit Certificate program. Basically, you pay an extra $750 when you first get your mortgage. After that, you can claim extra tax credits on your state taxes. We did this when we bought our home and it’s paid off many times over.
Federal Housing Administration loans
A Federal Housing Administration (FHA) loan requires a lower down payment and is accessible to people with lower credit scores than conventional (from the bank) mortgages.
A larger down payment and higher credit score are always good things… but sometimes that’s just not possible. You are required to carry mortgage insurance with an FHA loan, so that increases the monthly payment.
Veterans Affairs loans
Veterans Affairs (VA) loans are available to current and former service members, as well as their surviving spouses. These loans often have no downpayment requirement, offer lower interest rates and closing fees, and do not require PMI.
Rural Development loans
A Rural Development (RD) loan can be used to purchase a home in a qualifying rural area. These loans don’t require a down payment, have lower interest rates, and are available to people with lower incomes than conventional mortgages.
The hardest part of an RD loan is finding a home that is sufficiently rural enough, but many towns qualify. A town near me has a population of nearly 9,000, and homes located within city limits qualify for RD loans.
This list of first-time homebuyer tips will get you started on the process. Don’t expect to buy a home the day after you decide you want one. One of the biggest financial decisions of your life requires a little more work and research. You want to make a good move here.