“Focus on what you can control.” This is common advice given to anyone looking to develop healthy habits and decrease stress. It’s also great advice for a home buyer.
Buying a home can be overwhelming. While many factors are important, some are things you just can’t control. Focus instead on those you can control, namely, the decisions you need to make.
Before we get to the six most important decisions, we need to take a look at some important factors that are beyond your control, at least in the short term:
Things You Can’t Control
Income
Your income is one of the primary factors a bank will assess when reviewing your mortgage application. You may be thinking, “Wait a second, of course I can control how much money I make.” True, you can start looking for new job or decide to go back to school to learn a new field. But if you’re shopping for a home today, banks are going to look at your recent income. They may, for example, look at your last two years of tax returns in order to validate your income. There’s nothing you can do today that will change what those tax returns are going to say.
Savings
This goes hand in hand with your income – important, but out of your immediate control. Sure, you can change your spending habits, but you can’t change how much money is in your bank account today. You may be able to ask a friend or family member for gift funds to increase your savings, but, generally, the amount you currently have is set and reflects your past saving habits.
Credit score
Your credit score can have a huge impact on your ability to buy a home, but unless there are inaccurate blemishes on your credit report, your score is unlikely to change drastically in the short term. If you’d like to review your credit report for inaccuracies, go to AnnualCreditReport.com. (You can do this free of charge once per year.) And while it’s possible to make a short-term positive impact on your credit score by paying down large debt balances that show on your credit report, you should compare the benefit of an increase in your credit score with the impact to your savings and down payment amount.
The housing market
It can be frustrating to shop for a home in a hot market. You may have to compete in a bidding war, or you may travel across town to an open house and find out that the home, which has been on the market for only a few hours, is already under contract.
The interest-rate market
Interest rates (the primary cost of your mortgage) can change over a short period of time. While you have the option to lock in your interest rate and thus avoid the risk of an upward move in rates, you cannot control the market. Also, be very wary of anyone who has a strong opinion on the direction and magnitude of any short-term interest rate changes. If they really were able to predict rates, they’d be making millions trading in the bond market.
Things You Can Control: The Six Most Important Home-Buying Decisions
1. Monthly mortgage payment
You should complete a monthly budget. Use your after-tax monthly income and subtract all your non-housing expenses: car payments, groceries, travel, shopping – everything. Whatever is left you can split between savings and your mortgage payment. Let’s go through an example. If you get paid twice a month, and your paycheck is $3,000, your monthly income after taxes and deductions is $6,000 ($3,000 X 2 paychecks). If your monthly expenses add up to $4,000, you’re left with $2,000 ($6,000–$4,000). Of that $2,000, you might choose to save $500 a month and spend $1,500 a month on a mortgage payment. Going through this process will make you more comfortable.
Many home buyers make the mistake of assuming a mortgage preapproval letter can replace a monthly budget. While preapprovals are important, they’re meant to show real estate agents and home sellers that the bank is comfortable approving you for a given loan amount. It’s very possible you aren’t the typical customer. You may want to save a little more than the average person, or you may prefer to spend $1,000 a month on shopping or traveling. Your budget is for your comfort, and your home is one of the largest purchases you’re ever likely to make. (By the way, Bundle has great budgeting tools.)
Read more about your monthly mortgage payment here.
2. Down payment
A down payment is the amount you must pay up front, the day you buy your home. Let’s assume you have $50,000 in your savings account. It’s a good idea to set aside three to six months’ expenses as a buffer if something unforeseen happens, such as losing your job or having to care for a relative. In our budget example above, your monthly expenses were $5,500 ($4,000 for your non-housing expenses + $1,500 for your mortgage payment). If you were to set aside three months’ expenses, $16,500 ($5,500 X 3), you would have $33,500 left ($50,000-$16,500). And in buying a home, you’ll most likely have expenses in addition to your down payment, such as your contribution to the mortgage escrow account and the cost of title insurance. Let’s say those add up to $3,500. You are left with $30,000 ($33,500 – $3,500) that you can use for a down payment.
Read more about your down payment here.
3. Mortgage term
A mortgage term is the length of time it will take to pay back your mortgage. The most common term is 30 years, but there are benefits in choosing a 15-year term. In our example, with a $1,500 mortgage payment and $30,000 down payment, you’d roughly be able to buy a $190,000 home if you chose a 15-year term or a $240,000 home if you chose a 30-year term. You’re able to afford a more expensive home with the 30-year term because you’re spreading the cost over a longer period of time – but remember that you’re paying interest for twice as long and your loan amount will decrease at a slower pace. Your decision should be based on your level of comfort with debt and risk.
4. Choosing a solid real estate agent
If you get this decision right, the others will be easier, because your real estate agent is meant to be a trusted advisor for every step in the home-buying process. Choose your agent based on an enthusiastic recommendation from friends or family. If they’re excited to give you the name of the agent they used, that’s the person! Today, anyone can go online and see all the homes for sale. But a good agent will be able to guide you to the right areas based on your preferences and then consult you on the right offer to make when you find the home you love.
In addition to being an expert in the housing market, a great real estate agent knows the services market too. Based on experience, they’ll be able to recommend loan officers, home inspectors, painters, lawyers, and insurance agents they know will take care of you. Don’t simply choose the first real estate agent who calls you – take your time. Selecting the right one can save you time, money, and stress.
5. Shopping around for a mortgage
There’s an important point to remember when buying a home with a mortgage: you’re shopping for two main things. First, you’re buying the actual home, and, second, you’re also buying a loan. That loan – the mortgage – has a price tag, just as the home has a price tag. Since you’re buying the money that you’re borrowing in the form of a mortgage, it’s important to shop for the best value, just as you would in a home. You wouldn’t tour only one home, and you shouldn’t talk to only one bank. Your real estate agent will have a list of mortgage loan officers they trust if you don’t already have someone. Choose among them based on how well they answer your questions and on the cost of the mortgage they offer.
There are a few numbers you can use to compare mortgage costs. Annual percentage rate, or APR, combines up-front charges with monthly charges going forward and presents them as a rate. Some people find this difficult to understand, because we don’t buy things in percentages in our daily lives. The cashier at the grocery store doesn’t give you a percentage when you check out. They give you a dollar amount. That’s why, if you’re going to focus on one comparison, “in five years” is a good choice. This shows you the total amount you’ll pay over a five-year period, along with the amount of the mortgage balance you’ll have paid off. Having multiple high-quality mortgage options puts you in control, but you can only get to this point if you’ve made the decision to shop around.
6. “Do I still want to buy a home?”
What? Of course you want to buy a home! After all, you’re shopping for one, aren’t you? Nevertheless, at every step of the process, constantly ask yourself if you’re still comfortable. Things can move fast, really fast. You may casually request information on a home for sale, and the next thing you know, it feels like you’re on an unstoppable train. The phone starts ringing off the hook and you’re talking with banks, real estate agents, insurance agents, and home inspectors. Then you’re running around town touring every home with three bedrooms, a basement, and a fence.
It’s important to remember that your real estate agent, mortgage loan officer, and insurance company all make money when you buy a home. Yes, they’re working for you, but if you ever feel truly uncomfortable, as if you’re going down the wrong path, be honest and tell them how you feel. You may decide, with your agent’s help, to refocus your search on smaller homes or another neighborhood – you may even decide to pause your search. These are all better options than regretting a purchase. Buying a home can be an exciting experience, but make sure you’re honest with yourself and are constantly asking, “Do I still want to buy a home?”
If you remember to focus on the things you can control – those six important decisions you need to make – then you’re sure to end up in a more comfortable place. Happy home shopping!