Buying a home is at once an exciting and challenging venture. With commitment, planning, and learning, you can become a successful homeowner. This mini-site covers everything you need to know to start the homebuying process off right, including:
- Preparing for Homeownership
- Understanding Mortgages
- Getting a Loan
- Searching for a Home and Making an Offer
- Closing and Tax Benefits
Chapter 1: Preparing for Homeownership
The first step to homeownership should ideally begin well before you purchase a home – saving. There are several things you may want to save for, including:
The down payment: In the past, homebuyers needed to put down at least 20% of the purchase price to get a mortgage. Today, you may be able to buy a home with as little as 0-5% percent down (although 100% financing can be extremely hard to find). If your down payment is less than 20%, you may be required to purchase private mortgage insurance or get a second mortgage at a higher interest rate.
Closing costs: Closing costs are the fees required to obtain a mortgage and transfer ownership of the home, such as attorney costs, an appraisal, title insurance, a recording fee, points, and a loan origination fee. You may have to pay the fees yourself, although sometimes the seller will pay them or you can have them financed (included in the mortgage)
Post purchase reserve funds: You may need to show the lender that you will have savings left over after you purchase the home. This provides assurance that the mortgage can be paid even if you are experiencing cash flow problems. At least three months’ worth of mortgage payments is a good amount to have in reserve.
Extras: If you plan to buy a fixer-upper, appliances, or new furniture, include these costs in your savings plan.
In order to get a mortgage, especially one with a low interest rate, you usually need to have a good credit score. The most common scoring model is the FICO score, issued by Fair Isaac Corporation. Scores range from 300-850 – the higher, the better. Your score is calculated using data from your credit report, which is compiled by three bureaus: Equifax, Experian, and TransUnion. A lender may check your score from all three bureaus or only one. Many lenders require a score of at least 680 to get a mortgage, and those with a score in the mid-700s and above usually get the best interest rates. If your score is lower than 680, you may only qualify for sub-prime loans, which usually have a high interest rate, or find it difficult to get any loan.
The following are the factors used to calculate your credit score:
Payment history (35%): If you make a late payment, your score will take a hit. The more recent, frequent, and severe the lateness, the lower your score. Bankruptcies, judgments, and collection accounts have a serious negative impact.
Amounts owed (30%): Carrying high balances on revolving debt (like credit cards) and personal loans, especially if the balances are close to the credit limits, will lower your score.
Length of credit history (15%): The longer you have had your accounts, the better.
New credit (10%): Having recent inquiries and opening new accounts can lower your score. However, all mortgage or auto loan inquiries that occur within a short period of time are considered just one inquiry for scoring purposes, and you accessing your report does not affect your score.
Types of credit used (10%): Having a variety of accounts, such as credit cards, retail accounts, and loans, boosts your score.
Reviewing your credit report regularly is a good idea, but it is a particularly important to do so before seeking a mortgage. Even if you always make your payments on time and have a low level of debt, your credit report could contain score-lowering errors. Check your report at least 60 days before you plan to apply for financing, as it can take some time to resolve issues.
You can obtain your credit report from Experian, Equifax, and TransUnion free once a year through the Annual Credit Report Request Service. (Contact information is in Chapter 5.) Scores can be purchased for a fee. If you see any errors on your report, send a dispute letter to the relevant credit bureau(s) indicating which information is incorrect. They must investigate your claim and remove unverifiable information.
If your score is below the 680 mark, don’t despair. There are many things you can do to boost it:
- From this point forward, always make your payments on time.
- Repay collection accounts.
- Pay down your debt. Keep balances under 40% of the credit limit.
- If you already have 2-4 accounts open, avoid opening further accounts.
- Keep older accounts active.
- Avoid excessive credit applications.