5 Smart Money Tips for First-Time Home Buyers
It’s that time of year again… the sun is out, the birds are chirping, and the houses are open! If you’re a first-time home buyer, here are five must-do money moves to be sure one of the largest purchases you make is not a huge mistake.
1. Pay Off Debt & Build Your Emergency Fund
Before you consider purchasing a home and taking on a mortgage, you should first pay off all of your consumer debt (credit cards, auto loans, etc.). We also highly recommend paying off all student loans as well, but this should be determined by your unique situation (how much you have in student loans, your income, and other factors. Once your debt is paid off, you need an Emergency Fund! Emergencies WILL happen, and owning a home only increases their likelihood. If you don’t know where to start, we recommend saving up three months of living expenses. So if your TOTAL budget is $4,000/month, then you should save upwards of $12,000 in DO-NOT-TOUCH-THIS-UNLESS-IT-IS-AN-EMERGENCY fund.
2. Understand What You Can Afford
A common mistake many first-time home buyers make is they determine how much house they can afford by the monthly payment. This is a financially dangerous way to approach buying a home… the problem is that you’re only focused on your monthly bill, and not the TRUE cost of the mortgage. For example, if you put 20% down on a $200,000 home… then you’d borrow $160,000. Let’s say that mortgage is a traditional 30-year fixed rate at 4.25%. The monthly principal + interest payment is only $787 — not too bad! But here’s the painful part… you will end up paying $323,357 TOTAL for the home! Ouch.
So rather than focusing on an “affordable” monthly payment, consider the total cost. Here are a few simple ideas to consider.
Save 20% for the down payment. This is a good indicator that you can truly afford the home you’re buying. If you want a $200,000 home, save up $40,000.
Get a 15-year mortgage instead — using the same numbers in the example above, but on a 15-year mortgage… you would save $66,701!!
Pay attention to housing costs and your budget. A good rule of them is to make sure your total housing costs is less than 28% of your gross income
(Principal + Interest + Taxes + Insurance) / Monthly Gross Income < 28%
3. Beef Up Your Budget… Beforehand!
When you go from renting to owning, you will incur new costs (i.e. lawn care, regular maintenance, higher insurance, etc.). Be confident in your home buying decision by creating a new budget beforehand. Include some of those costs that you don’t incur now — do you need to buy a lawn mower? Planning on refinishing the kitchen? These all take money, planning and time… so it’s important to understand what you will be spending before you actually buy the home.
4. Get Pre-Approved!
We highly recommend that you work with a reputable mortgage lender to obtain a pre-approval for the mortgage. Not only will this help you frame expectations for the costs addressed in #’s 1-3, but you’ll then be able to pull the trigger when you find the perfect home. Especially when it’s a “seller’s market”, you need to be able to act quickly on the home of your choice, and having a pre-approval letter in hand is key!
5. Do Your Research
Plan ahead and research the things that are most important to you in a home. Good school district? Big backyard? Family neighborhood? Shops and entertainment within walking distance? Make a checklist of these things.
By completing steps 1-4 above, you’ll have your price range set. Then you can lean on your realtor to only send you options that meet your checklist items, within your price range. By predetermining what’s most important to you, you don’t waste time with homes that aren’t a good fit, and you aren’t tempted to “stretch” into more home than you can afford.
BONUS TIP FOR COUPLES: Get On The Same Page!
From our perspective, this is a non-negotiable. When making such a big financial decision, you must be aligned with your spouse, and you both should be peaceful about it. If you’re not both peaceful, then you shouldn’t do it. Period.