For the average American, few financial transactions are as nerve-wracking, or as costly, as buying a home. From choosing the neighborhood to the architectural style, from the mortgage rate to the condition of the roof, there’s so much you could worry about.
By starting to understand the process, you can curtail many of your fears.
Visualize and prioritize
Whether you’re buying a home on your own or with a partner, it’s important to come up with a list of deal-breakers and deal-makers, starting with where you want to live.
Examples of other questions to ask yourself: Are you looking for a good school district? Are you able and willing to take care of a lawn? Would you prefer a condo lifestyle? How much can you afford to pay for utilities, maintenance, property taxes and homeowners association fees?
Once you have a handle on what you want, need and can afford, it’s time to turn your dream into a reality.
Maximize your credit
The minute you begin thinking about purchasing a home, check your credit score. Your score should be at least 740 in order to get the best mortgage rate possible. A percentage point or two of interest may not seem like a lot, but it can save (or cost) you thousands of dollars over the course of your loan.
Check to see whether your credit card issuer includes your score for free on your monthly bill. If not, you can buy your score from myFICO.com, or annualcreditreport.com
If your score is too low for a good mortgage rate, start paying down your debts to increase your debt-to-income ratio. You may want to wait a few months before seeking a mortgage.
Save for a down payment
Coming up with a 20% down payment is daunting but doable. Consider socking money away into a high-yield, low-risk account like a share certificate, so you can make money while you save. Windfalls like tax refunds, bonuses and inheritances should be put into savings before you’re tempted to spend them. Arrange to have a percentage of your paycheck auto-deposited into savings each pay period.
While it’s often possible to buy a home with less than 20% down, you’ll need to pay private mortgage insurance until you reach the 20% mark. Also, don’t forget to put aside money for closing costs, typically about 2% to 5% of your home’s purchase price.
Gather your paperwork
Your lender is going to need a lot of paperwork from you, so the sooner you have everything organized, the better off you’ll be.
To start off, you’ll need W-2s for the past two years, about four of your most recent pay stubs, 1099s or profit-and-loss statements if you own a business, your two last tax returns, a list of your debts, a list of your assets, two or three months’ worth of bank statements and canceled rent checks.
Get preapproved for a loan
After you’ve bulked up your credit rating, look into getting preapproved for a mortgage. Financial institutions like North Iowa Community Credit Union will look at your finances, and if you meet all the criteria, issue a letter of preapproval.
This isn’t the same as actually getting a mortgage, but it will speed the process once you find your dream home. It also tells you what the financial institution believes you can afford.
This number may come as a surprise, but it’s important that you’re realistic too. Just because the financial institution will lend you a certain amount of money, that doesn’t mean you should necessarily borrow that much. Look at your finances and decide what you feel comfortable paying each month, and adjust your expectations or timeline for buying accordingly.
Sellers like to see prospective bidders who are preapproved because it shows that you’re serious about buying.
Decide what kind of mortgage you want
There are two main kinds of mortgages: fixed-rate and adjustable-rate. Both have their advantages and disadvantages. A fixed-rate mortgage means that the interest rate stays the same throughout the life or your loan. An adjustable-rate mortgage may offer lower initial rates for a few months or years, but after that period is over, it can fluctuate in an upward or downward trajectory.
You’re generally better off with a fixed-rate mortgage if you plan on staying in your new home for the long haul. But if you’re going to be there for only a couple of years and can sell before the initial rate expires, an adjustable-rate mortgage may be the way to go.
There are certainly a lot of decisions to make when buying your first home, but following these steps will take a lot of the anxiety out of the process.
Judy McGuire, NerdWallet
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