Buying a home—especially your first home—can be a daunting task. That said, nothing will put your mind at ease like knowing ahead of time that your financial ducks are in a row. Before buying a home, these financial steps will ensure that the entire process moves along smoothly.
Know that your income is steady
Establishing a steady income is essential before buying a home. And while no job is 100 percent guaranteed to be secure, you should be reasonably confident that your income will be stable and reliable for the foreseeable future. That means that if you just quit your job to start your own business, or you just started a new job that relies partly on commissions, it’s worth waiting until you can calculate a stable monthly income before buying a home.
Build an emergency fund
Building up a solid nest egg is important before you start looking at houses. This is especially crucial if you are making the leap from renting to owning your own home for the first time, because you will be responsible for more than just monthly mortgage payments. You’ll also need enough to cover routine maintenance and unexpected malfunctions—what if the water heater breaks down, or the roof needs to be fixed? As a general rule, it’s smart to have enough saved up that you could live off it for three to six months.
Determine your budget
Do the math so that you know how much house you can realistically afford, and compare that number to the asking price of homes in the area you’re planning to move to (Realtor.com and Trulia.com are great tools for the latter). It’s crucial that you know exactly how much you can afford in terms of monthly mortgage payments, while still having enough left over for other bills, expenses and lifestyle costs.
Check your credit before buying a home
If you own a credit card, you can probably check your credit rating and obtain a credit report for free. Mortgage lenders will use your credit rating to weigh your financial reliability and determine whether they will offer you financing. Generally speaking, a credit score of 740 to 799 is considered very good, a score of 670 to 739 is considered good, 580 to 669 is fair, and 300 to 579 is poor. If you find out that your credit score isn’t what it should be, it’s worth taking the time to rebuild your credit before buying a home; it could potentially save you thousands of dollars over the lifetime of your mortgage.
Assemble the paperwork
You’ll need to provide a mortgage lender with numerous documents to apply for a loan, and you can avoid headaches by having your paperwork organized in advance. For the typical home buyer, the necessary paperwork includes two years of federal tax returns and W-2 forms, pay stubs from the last 30 days showing your year-to-date income, a quarterly or 60-day statement of all checking, savings and investment accounts, documentation of residential history for the past two years, and proof of funds for your down payment.
Determine your down payment
All lenders have their own requirements when it comes to how much you need to have for a down payment. But as a general rule, you’ll be in the best possible position if you can put down at least 20 percent. This is partly because a larger down payment results in less interest over the lifetime of the loan, but also because a 20 percent down payment allows you to avoid paying extra for private mortgage insurance.
Budget for closing costs
In addition to your down payment, you’ll also be required to cover your share of the closing cost. This is a one-time fee that typically runs between 2 and 5 percent of the home’s purchase price. You’ll have a better idea how much this cost will be when your lender provides you with your Loan Estimate, also known as a “Good Faith Estimate,” which outlines the terms of your mortgage, the loan amount, interest rate and closing costs.
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