I recently wrote a blog post about the costs of homeownership. These costs are real and should be strongly considered by any homeowner.
But if you’re just starting on the path to buying your first home, there’s even more to consider. Despite what HGTV might portray, the homebuying process is not easily condensed into a 20-minute episode. Before leaping into the fray, here are 5 tips that every first-time homebuyer should try putting into action.
1. Get organized
Home buyers need to be ready to provide a lot of documentation to a lender. Living in a "post-2008, housing and financial crisis world" has made the financial disclosure process even more cumbersome. Couple this with our tendency to lose a little control of our financial lives as life gets busier, and you’ve increased the stress that comes with buying a home--especially as a first-timer.
Get a jump start on being ready to share your financial information with your lender (they’ll explore each and every detail) by making a list of all of your financial accounts (checking, savings, W-2s, tax returns, investments, etc) and ensuring that you have access to your latest statements.
Next, know where you’re planning to look for your first home. Are you targeting a middle-class neighborhood where home prices are more affordable, or something more upscale and pricey? Knowing this will help you know where your budget needs to be and what you can realistically afford.
Once you have your financial documents in order and you have an idea of what types of neighborhoods you’ll be looking to buy in, call your lender and get prequalified.
Don’t assume that the amount you’re “qualified” to borrow is what you should spend, but getting prequalified will at least help you remove the homes or neighborhoods from your wish list that are completely out of your range (we’ve all had them before). An offer with a prequalified letter looks much stronger, as well.
2. Ask yourself: How much home do I really need?
When considering your first purchase, consider what you really need. Although the median amount of time in a home is around 10 years, chances are good that you won’t be in your first home for very long.
Ask yourself a few questions to get started. For example, what are your plans for growing your family? Are you planning to have children? If so, how many? How big is your family right now, and what amount of space are you comfortable with? The average square footage of U.S. homes is around 2,000 square feet, but for the first time in many years, the average size of homes is getting smaller. Are you okay with that?
Also, consider what else you might be using your home for. Do you plan to work from home on a regular basis and have a small home office? Do you often have company over? Will you need extra floor space for your kid brother’s inflatable mattress when he needs a place to crash? (If so, remember Franklin's old, classic adage...)
“Guests, like fish, begin to smell after three days.
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As you consider how big you’d like your first home to be, factor in the costs, too. I’m not just talking about the overall price. Every extra square foot of your home needs to be heated, cooled, cleaned, insured, and taxed. Which brings me to my next point…
3. Know what your home is really going to cost
If only buying a home was as easy as seeing one “all-inclusive” selling price. Buying a piece of property isn’t like buying a candy bar, especially when you’re borrowing money to do it.
When you have a home that you’re considering making an offer on, talk to your lender and find out what the insurance, taxes, and PMI will add up to. You may be prequalified for $250,000, but with closing costs, appraisal fees, agent commissions, taxes, and insurance the home you can actually afford may be closer to $225,000.
Since these costs can add up, it’s wise to plan to stay in your home for at least several years. 5 years is a common number, though it’s always felt a bit arbitrary to me. What you’re trying to do is at least receive some price appreciation on the home before you sell and buy again, since so many of the costs previously mentioned ultimately eat into your bottom line.
4. Put at least 20% down
There are so many factors to consider and “levers” to adjust that affect the cost of a home. The look and feel of the neighborhood, the amenities, and its proximity to schools and parks. There are, of course, economic factors as well--your mortgage interest rate being one of the biggest.
With many variables out of your control it’s wise to get in the habit of controlling the biggest lever that you can. That’s your down payment. Simply put, there’s no better tool for making an impact on your monthly payment than to put more money down on your purchase. (You'll avoid that pesky Private Mortgage Insurance, too) But there’s also no bigger roadblock for first-time homebuyers.
My advice? Fight against that roadblock as hard as you can. You’ll be amazed at the relief you’ll feel having a larger down payment and subsequently less of your monthly cash flow going toward your home, and more of it available for your other living expenses and financial priorities, like saving for retirement.
Don’t feel like you have to stop at 20% down, either. Any amount of cash brought to the table will have a double impact: your offer will be more appealing to the seller and your payment will be lower.
5. Eating a slice of humble pie--in the name of financial security
I had a recent conversation with a couple who are planning for their first home purchase. They’re doing everything right. They know what communities they’d like to live in and where the prices are, they have a good idea of how much space they’ll need, and they have a big down payment saved up.
However, the one unknown variable is they don’t plan to purchase a home for at least a few more years. Where will interest rates and home prices be at this point and how will it impact their purchasing power? No one knows.
As we talked, they proposed the option of living with family while they continued looking. Doing so makes a huge financial impact on your home purchase in two ways: there’s no rent being paid (assuming your family doesn’t charge you) and any amount you saved can go directly toward your down payment.
The impact of this move cannot be overstated. If rental rates are $800 per month with an additional $100 per month for utilities, you’re socking away an extra $10,800 per year! And that doesn’t include any amount you’ve already saved (as this couple has) or any additional amount you’re currently saving.
It’s a healthy serving of “humble pie” to move in with family. I’m "eating it" right now. To save money for some of our family goals, Kellie and I moved in with her parents. It takes a shameless man to move in with his in-laws at 36 years of age, and I am that man. Nevertheless, Grandma is getting an abundance of baby time, we’re able to help around the home in countless ways forming new family bonds, and the financial impact on our family is tremendous.
I hope these five pointers are helpful as you consider your first home purchase. It's a big, exciting step in a great direction. By doing the required upfront work, being realistic about what you actually need, and saving for a healthy down payment; you'll be in much better shape financially as a new homeowner.
If you're planning to purchase a home for your first time, why not have a fee-only financial advisor (like me) help you see how it might impact your finances? We'll put a simple home affordability plan together and give you a little peace of mind with your first home purchase.