Want to buy your first home? You’ve probably got some cash saved for a down payment and maybe even recommendations for realty agents from savvy friends. But have you cleared your credit report, hired a tax adviser or weighed FHA financing compared with a conventional mortgage?
Not every first-time homebuyer will need a tax adviser, to fill out forms needed to withdraw part of her IRA without being penalized. But everyone should prepare early with orderly finances, information and plenty of patience for the long, complicated process ahead.
Here’s a primer on what first-time buyers need to do before they take that big plunge:
1. Credit and savings Request a free copy of your credit report from the three major credit bureaus via www.annualcreditreport.com. Use only this link to avoid the many credit-reporting scams out there. If you see accounts you don’t recognize or negative marks on your credit report, clear them up now.
“You’d be surprised. Your parents might be on there, your cousins,” said Mary Malgoire, founder of the Family Firm, a financial advisory firm in Bethesda, Md. “It’s really important to clean it up before you start this whole process.”
If you see old credit cards that you no longer use, consider closing some strategically, starting with the newest, low-limit cards that are unused. Lenders prefer a low ratio of debt to credit limit, so it’s good to have more credit available than you use monthly. They like to see long-standing lending relationships, so don’t close your oldest credit card. Finally, if you close too many credit cards in a short period, that raises a red flag as well.
“If you close down a lot of credit cards that you’re not using, it could trip a switch. If you have too many lines of credit open, it could affect your score negatively,” said Christopher Brown, a fee-only certified financial planner in Rockville, Md. “There’s a happy medium.”
2. Stick to your budget Create or revise your monthly budget so you’re setting aside the money you would pay as a homeowner that you don’t pay as a renter. This includes the home mortgage, mortgage insurance, property taxes, condo or home-owner association fees, home furnishings, maintenance, cleaning and any utilities or fees your landlord pays.
Living with this budget will teach you what you truly can afford, as well as help you pay off credit card debt or add to the savings you already should have amassed for a down payment. You’ll return to this budget when you actually make an offer, so consider this a draft version.
The bank and credit card statements that you use to create your budget probably will be requested later by mortgage lenders. Start keeping your financial statements and pay stubs in a file, where you’ll put new documents as they arrive so everything remains current.
This is an opportunity for a reality check, said Kate Fries, a certified financial planner with the Family Firm. Will you stay in the area where you want to buy for at least five years, and do you have enough saved beyond the down payment for moving costs, maintenance and repairs?
“A lot of people jump into homeownership before they should. They get excited — their friends are doing it, the rates are really low, and the idea that you should own a home. That’s not always a good starting point for making good financial decisions,” Fries said.
Review your personal and professional plans to see whether there’s a chance you might move to another city for work or add to your household through marriage or childbirth, both of which have implications for your income, location and the size of your home, said Carter Ferrington, an associate broker and agent for Vogel Realty.
3. Find a good agent Not only can your real estate agent advise you on neighborhoods and new listings of interest, that person is your advocate in a competitive market. Ask friends, family and colleagues for recommendations of an agent with expertise in your target market.
“The one thing I have that you won’t have if you’re a buyer is objectivity,” real estate broker Donna Evers said. “You’ll fall in love with some charming front porch. I’m going to be the little angel at your elbow saying, ‘Can you borrow that much?’ ”
Your agent can help craft a strategy for being a competitive bidder. For instance, sellers prefer a buyer with no inspection or appraisal contingency, but you’ll need to think through your comfort level with paying for an inspection ahead of your offer being accepted and with buying a home that appraises for less than the sale price.
“These are the two things you might have to drop if you’re going to be competitive,” Evers said.
4. Find a good lender Your agent is a terrific source for the other important professional for home buyers: a mortgage lender. Whether you work with a specific lender or a mortgage broker who can connect you with many lenders, interview several individuals before choosing. But don’t let anyone run your credit until you’ve decided, as several inquiries could raise a red flag and lower your credit score.
“Make sure that person is reputable and can perform,” Evers said, recommending that buyers check references.
You don’t want to let a quarter-point-lower rate tempt you into an Internet-based lender, then be unable to reach the underwriter when you’re in a fast-moving bidding war. “Get pre-approved,” Evers said.
Your lender can walk you through financing options and give you a realistic view of how much you can borrow based on your income and credit. Ask the lender to run a hypothetical scenario so you have a written estimate of the monthly principal and interest payments, closing costs, insurance fees and property taxes.
Your lender can walk through your credit report with you, give advice on improving your score and estimate how long it might take for your actions to be reflected in the credit bureaus’ records. Make sure you understand in what circumstances you’ll be required to buy the home — or will forfeit your earnest money — even if your loan application is ultimately denied.
5. Stay alert and ready All that remains now is to look at properties and be ready to make an offer quickly. That means keeping your finances spiffy for the final check before the sale. “Please don’t go out and buy a big car between now and settlement, or incur any new debt,” Evers said.
When you find a property you want, call utility providers for usage history and check on condo or homeowner association fees and property taxes, then build all those costs into your monthly budget. Don’t let the beautiful home sway you if the expenses will push you over the limit of what you can afford.
Don’t drain all your liquid resources to pay for the down payment and closing costs, Brown said. It’s better to have slightly higher debt and enough cash on hand to afford emergency repairs or unexpected expenses.