For most of us, our home is the largest investment we ever make. Counter your understandable butterflies at such an outlay of money by knowing as much as you can about the process in advance.
Housing also remains one of the biggest sectors influencing our national economy, with home starts and inventory data providing valuable insights into how we’re doing nationwide.
Homebuying continues to surge. The National Association of Realtors reports that home sales remained on a brisk pace in recent months. Housing markets are also nearing records in Denver and Seattle, to name just two cities.
Sounds great, and we’re all conditioned to think that homeownership constitutes a big part of the American Dream. What’s the right time to for you to invest in that dream and what do you need to think about before signing the deal?
Conventional wisdom suggests that you can buy a home as soon as you can afford a down payment, monthly mortgage bill and, of course, settle on a location. These aren’t the only issues for you to consider.
First, be reasonably certain you will live in the home for at least seven years. On top of the recurring mortgage payments, insurance and property taxes that come with home ownership, you’ll face such carrying costs as yardwork, replacing water heaters or roofs and general upkeep. Plus, you must pay for transactional costs in the buying and selling.
The next question is often, “How much house can I afford?”
Qualifying for the monthly payment usually starts the buying process. Mortgage companies use a formula called debt-to-income ratio to calculate a monthly payment.
As I’ve written before, bankers add up all your car payments, minimum monthly payments on credit cards, monthly student debt payments and other obligations and divide the debt by your monthly income. Including the new potential mortgage payment, your ratio ought to be lower than 40% – ideally, less than 27% to 36%.
Meeting a specific amount for a down payment can help you avoid springing for private mortgage insurance (PMI) to protect your lender if you default on the mortgage loan. Generally, lenders require homebuyers to put down 10% to 20% of the purchase price to avoid mandatory PMI.
Your credit score helps determine terms of your mortgage. Your score probably comes from Fair Isaac Corp., and takes into account such factors as your payment history, amounts you owe, the length of your credit history, any new credit and the type of credit you use. Your score falls between 300 and 850. Above 750 usually denotes excellent credit, around 650 fair and less than 600 poor credit.
Each year you can receive a free copy of your credit report from www.annualcreditreport.com. Reports are provided from the three major credit-reporting agencies (Equifax, Experian and TransUnion).
Lenders typically offer fixed-interest home loans that give you the option to repay over 15 or 30 years. The 30-year option usually comes with a little higher interest rate and a smaller monthly payment.
Your lender may also offer an adjustable rate mortgage that specifies a fixed rate for a certain number of years but then adjusts the rate based on economic conditions. Generally, the fewer the years in the mortgage’s term, the better your payments at the initial stages of that loan.
Don’t forget costs for movers, new furniture, hooking up utilities and your first night’s take-out dinner. Like most ideals, the American Dream makes for excitement and a lot of work.
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Joseph “Big Joe” Clark, CFP, is the managing partner of the Financial Enhancement Group LLC, an SEC Registered Investment Advisory firm in Indiana. He is the host of Consider This with Big Joe Clark, found on WQME and iTunes. Big Joe can be reached at bigjoe@yourlifeafterwork.com, or (765) 640-1524. Follow him on Twitter at @Big Joe Clark and on Facebook at http://www.facebook.com/FinancialEnhancementGroup.
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