Buying your first home is an exciting process but it is probably going to be one of the most stressful experiences of your life. No matter how much research I did – I couldn’t find one source that summarized the entire process. I was stuck piecing together the puzzle using information from various websites, books, etc.
My goal is to simplify the home buying process and give you a play by play of my first time home buying experience to hopefully make your process that much smoother.
Where the heck do I start?
As a first time homebuyer, you’re probably going to hear about downpayment assistance programs, saving a 20% downpayment to avoid PMI, the seller pays for the closing costs (which is only half true), owning a home is cheaper than renting, and the list goes on.
I don’t believe there is really any good place to start with this so we’ll start with figuring out what you can afford. The first thing you should do when the very thought of buying a house crosses your mind is ask yourself: what are my currently monthly expenses?
If you haven’t read my post about automating your finances this would be a good time to go and give it a quick read or at least the “Let’s organize your finances” section of the blog post. Sometimes life has a way of letting the actual numbers of our finances get away from us. Some are better than others at juggling this and keeping track while being able to still save but I guarantee that EVERYONE could use some tightening up on their budget. To do this I created a spreadsheet that organized my annual salary into two different numbers: monthly and bi-weekly sums.
By breaking down my annual salary into monthly and bi-weekly sums it gave me a better perspective of my debt to income ratios. In other words, how much of your income is going to bills and/or debt. How much of it is going to bad debt (credit cards, subscriptions, unnecessary purchases)? How much of it is going to “good debt” (bills, rent payments, auto loan (arguable whether it’s good or not), etc.
The next step should be rather obvious, you need to examine your expenses with a fine tooth comb. I created this spreadsheet to help me analyze my expenses. First I examined all expenses, then I broke it down into a monthly sum. Then I broke that sum down into bi-weekly payments. I broke each expense into a separate category and then created automatic transfers for those sums for each of my different bank accounts. I had one account for bills, personal spending, misc/emergency expenses, one for investments and another for savings.
By doing so, I was able to really focus on my bills portion of my spreadsheet. How much of my money was going to that bad debt. If you want my personal opinion you want $0 credit card debt; I don’t care what ANYONE says. Let’s use my finances as an example:
I had a total amount of $2,179.00 going to bills bi-weekly. So in the eyes of the bank, my debt to income ratio is $2,179.00 divided by $8,611.56 or 25%. I’d say anything below 30% would be a good rule of thumb.
So from here, we need to figure out how much of a mortgage you can afford. As you can see my monthly rent was $1,183.00 each month. Generally, when determining whether you want to buy a house versus rent you should try to keep your mortgage payment as close to your monthly rent payment as possible.
If you can find a home that suits your needs and obtain a mortgage for the same cost of your monthly rent (principal, taxes, PMI included), you’re in good shape.
Remember: when you rent you don’t have to pay interest, maintenance costs, or worry about property taxes. When you own a home if something goes wrong it’s coming out of your pocket, you will have property taxes to pay and interest on the mortgage. People Will argue owning a home is an investment but unless that home has an apartment in the basement putting money into your pocket that house is a liability and will only take money out of your pocket. Yes you can write off the interest on your taxes, but it’s only PART of it and you can’t write off property tax. If you own a home business and have a good accountant you can write off part of your home’s square footage but that’s another story for another post. There are ways to turn your home into an investment.
So in this case I was planning on taking out a 30 year mortgage (360 months), 360x$1,183.00= $425,880, meant I could technically afford $425,880 home with no downpayment. BUT THIS WAS FAR FROM THE TRUTH! Keep in mind, this price was based on a monthly payment of $1,183.00 does not include closing costs and also assumes interest is included in the mortgage payment. We need to take this one step further.
How much can I really afford?
This would be a good time to introduce the mortgage calculator because it is important to know how much of your monthly payment is going to be interest. Bankrate.com has a great mortgage calculator and an amortization calculator (amortization shows how much interest over time you will pay we’ll get into that more later).
When you go to bankrate.com, hover over “mortgages” at the top of the page and a menu will appear. Go over to “Mortgage Calculator” and use the estimated monthly payment slider to generate different home prices based on your monthly payment. It will then break it down on the right into an estimated interest and principal payment, home owners insurance, and property tax, all based on the home price (when you settle and make your mortgage payments your monthly mortgage payment will include: principal & interest, homeowners insurance, property tax, and PMI if applicable).
The closest I could get to $1,183.00 a month was $1,178 but you get the idea. The point is, it is not as simple as multiplying your monthly rent out by 360 to come up with what you can afford. It is highly skewed and a lot of sources elsewhere will have you calculate it exactly that way. It’s bull$#!%.
Note that this estimation does not include PMI (private mortgage insurance), which is basically a b.s. penalty you have to pay for putting a downpayment of less than 20% down. These estimates are also based on a 3.07% interest rate (which was what I found on google). It’s important you Google “current mortgage interest rates” and see what they are when you are figuring this out and run these numbers. Mortgage interest rates fluctuate DAILY and DRASTICALLY at times.
Now let’s get to the 20% down payment. For this example, a 20% downpayment means saving $45,309.80. But, this “20% downpayment” really has very little to do with you coming up with that money. What it really means is if you can purchase the house with 20% equity or 80% loan to value (LTV), PMI will be waived (20% equity means you owe 20% below the appraised value of the home and 80% loan to value means the same thing just a different way of saying it. Instead 80% loan to value means you owe 80% of the appraised value of the house). We will circle back to this later.
It is at this point in time you need to figure out if you are happy with that price. Do you need to save more money? Would you rather continue to rent? How much can I really afford? Could I afford to bump it up to $300,000? It is important to really play with these numbers and compare to your current financial situation. If you wait another year, can you afford a $300,000 home by paying off more debt and saving more money?
It is important to keep in mind that cash on hand (in savings), retirement accounts, salary, credit score, etc. all factor into the interest rate you are going to receive on your mortgage. If you’re credit score is a 730 I’d hold off to bring your score up to a 750 or better because you’ll get a much better interest rate (750 and higher scores get better rates).
Do you have some credit card debt you could pay off to boost your score by lowering your credit utilization? How many inquiries do you have? When will those inquiries fall off (they take about 18-24 months)? Will they fall off in the next year? Will it be better to wait? Have you missed any payments (missed and/or late payments take 7 years to fall off your report!). For more on credit scores and repair see my post about Credit Cards – Friend or Foe?
First Time Home Buyer Programs
Once you figure out your price range and what you can afford I’d highly recommend seeing what first time home buyer programs are available in your state. Programs available vary from state to state and sometimes even county to county.
There is a website called HUD.gov run by the U.S. Department of Housing & Urban Development. When you go to their website hover over “What We Do” and click “Buying A Home” or scroll down to the “Quick Links” section and click “Buy A Home.” You will see an option for “home-buying programs in your state.” The rest is self explanatory. I would highly encourage you to familiarize yourself with all the programs available to you. I missed out on a bunch because I was looking in a county that I made too much money to qualify then found out one county over I would have made the cut. Do you homework on this one.
I would also highly recommend looking into each county and see if the county offers first time home buyer classes. You may be able to Google this for your state/county. I have not seen one that costs money, they seem to be free. I did not find out about this until after I was pre-approved for a mortgage and already on the clock to find a house to keep my pre-approved interest rate before rates went up.
To reiterate – I HIGHLY HIGHLY HIGHLY recommend doing this BEFORE starting your actual search and getting pre-approved. I found that a lot of realtors didn’t know anything at all about first time home buyers programs. I went through 3 realtors before I found one that was worth my time but even he didn’t know much about first time home buyers programs in Maryland, however, he pointed me in the right direction to find information and also was the first to admit he did not know much. The other gave me the run around and tried to play it off as if they knew but they ended up wasting my time.
Some downpayment assistant programs are grants that require you to live in that game for X amount of years before moving and other are loans that are forgiven after a certain # of on time payments. It’s important to know what kind of assistance you are receiving and ensure you truly understand what you are getting into. Some programs I saw were downpayment loans that were interest free but required that you pay them back when you sell the house.
If you have a great credit score and can afford a couple of hits get 2 pre-approvals! 3 may be excessive but if your FICO score is above an 800 I’d say it may be worth it depending on the offers you received the first two times. However, I’d like to point out that Credit Karma is full of absolute $#!% when they tell you “you have 45 days to get multiple pre-approvals without it affecting your credit score.” Don’t fall for this, just like I will tell everyone not to fall for their teaser credit card offers. Credit Karma has never told me the truth. DON’T LISTEN TO THEM! The only thing they are good for is a very quick, rough glimpse at your score; I generally found that my FICO credit score is roughly 20 points lower than TransUnion and Equifax (which is what Credit Karma goes by).
Once you have a pre-approval this DOES NOT MEAN YOU ARE LOCKED INTO THAT INTEREST RATE! Please keep in mind your pre-approval is only good for 90 days! Then you must get another one. This is why I encourage you to first, get a rough idea of what you can afford and whether or not you are truly in a position to buy a home. Two, research first time home buyer programs in the state/county you want to live in and take a first time home buyer class. THEN, get your pre-approvals when you are ready to begin looking.
Choosing a Realtor and a Lender
Finding a good realtor is relatively tricky but they are out there. If you are using a realtor there will most likely be a brokerage fee, but as a first time home buyer the seller usually pays for the brokerage fees which is a PORTION of the closing costs NOT all of the closing costs. I can’t tell you how many times people told me “closing costs are covered by the seller” but what they really meant is the brokerage fees. I have yet to meet someone who had a seller pay 100% of the closing costs for them first time home buyer or not.
Ask your realtor if they are a buyer broker or a fiduciary. This is supposed to ensure that they have your best interest in mind and not just the sellers. If you use your own broker and the seller has his own broker the realtors will split the commissions. I found this was the best way to go because I didn’t have to pay for the commissions and my broker was really working for me. If you find a house through the sellers broker obviously that broker is only going to have the sellers best interest in mind no matter what they tell you.
Find a broker who is not concerned about commissions but concerned about YOU. They should be asking you questions about you and your family such as: What are your hobbies? What kind of work do you do? What’s your lifestyle like? What are your top 3 features in a house that you must have? What would you be willing to sacrifice those 3 features for if we can’t find something will all of them? Are public school districts important? If so, are you planning to stay at this house for the next 5 years or do you want to move again?
Ask the broker questions about themselves too. Get to know them because you’ll be working with them. Google “good questions to ask a realtor.”
Note: some people use their first homes as a stepping stone while their kids are young to save money and then move to a better area with a better school district; better school districts usually have more expensive real estate.
Choosing a mortgage lender is somewhat of a challenge itself. No matter where you go the bank has one goal in mind: to make money off of your money. DO NOT TRUST A BANK TO GIVE YOU THE BEST DEAL! You must advocate for yourself and negotiate with them. This is why I say 2 pre-approvals may be best. Argue one bank down as best as you can and then go to another bank. Haggle them down, and see which bank has the better deal. Then show your pre-approval and estimated costs/interest to the other bank and ask them to BEAT it.
This is what I did. I wanted to go through Navy Federal Credit Union (NFCU). NFCU initially pre-approved me for $500,000 with $100,000 to finance $400,000. I didn’t want to spend that much but I wanted wiggle room incase I needed it. They offered me a 2.75% interest rate and no PMI but I was going to have to pay an “origination fee” of 1% of the loan cost. I was looking at a house that was $390,000 so my origination fee was going to be $3,900 (they were basically making me buy out PMI right there).
Note: Don’t be afraid to offer less for the house. The home owner originally listed the house for $400,000. It was on the market for 23 days and then he lowered the price to $390,000. The house was not “turn key” but it was move in ready. The home owner rented the house out since 2008 so I knew he made plenty of money off of it. I offered him $380,000. He took it!
With Navy Federal if you put 0% down there is a 1.75% lender fee, if you put money down they waive it (not sure if there is a minimum for this or not). I told NFCU I’d think about it and went to a lender my realtor recommended; SunWest. I got their pre-approval and saw their origination fee was $1,295. Much lower than Navy Federal’s but the interest was a little higher at 2.9% and they had PMI. I asked them if they could match the interest rate and waive PMI. They told me they would beat the interest rate but they couldn’t waive the PMI.
By the time I went back to NFCU interest rates had gone up because of market fluctuations and they actually told me it was because of the manipulation of GME, AMC and whatever else WallStreetBets and Reddit tried to manipulate. NFCU told me they could give me 3.8% interest. I went back to SunWest and asked them what the LOWEST interest rate they could give me was – they came back with this offer.
This loan estimate breaks down the amount, the interest rate, estimated monthly payment (principal and interest) with home owners insurance and property taxes. As you can see I ended up expanding my budget compared to what I determined I could afford based on my monthly rent.
Notice they didn’t lock my interest rate in. This means it maintains the ability to fluctuate. Mortgage lenders have the ability to lock your interest rate (this lender tried to convince me that the rate would possibly go down; I wasn’t buying it).
At the bottom you can see the estimated closing costs were to come in at $12,650. So if I didn’t have this money in addition to my $40,000 downpayment I would have had to finance the extra money and that original loan amount of $342,000 (which didn’t include $3,800 I already had in escrow for an “earnest money deposit;” basically just a deposit of good faith), meaning I’d end up paying 3.125% interest on an additional $12,650 for a total finance of $356,650.
Go to bankrate.com again, bring up the amortization calculator, punch in $340,000 for 30 years at 3.125% interest and then punch in $356,000 and look at the difference in total interest paid over the course of 30 years with NO additional payments. If your not shocked by that… then you’re either loaded with F-you money or you have some questions that need to be answered. The $10,000 I saved by offering the home owner $380,000 would have been for nothing if I financed these closing costs.
This next page of the offer breaks down what makes up the closing costs. Line item A is what I want to focus on. That origination fee is $2,205 less than what NFCU quoted me. It’s time to negotiate. Remember, NFCU didn’t require PMI and this lender did.
Keep in mind some of these fees cannot be changed. They are based on state/local taxes/rates and there isn’t much to be done about them. Original fees, appraisal fees, inspection costs, titling fees, homeowners insurance, are all costs you can shop around for and negotiate.
I sent this offer to NFCU and asked them to BEAT it. If you ask lenders to match they will match if you ask them to beat it they will beat it. Do not be shy, “take what you can give nothing back!” -Capt. Jack Sparrow
NFCU came back with a slightly lower monthly payment, the same interest. Locked my interest rate. But now the closing costs were slightly higher. The reason for their higher closing costs was worth investigating because I still wanted the benefits of no PMI (remember I was only putting about 10% down so this is still a win).
Navy Federal beat SunWest’s origination fee by $20. So this alone saved me $2,625 from NFCU’s original quote of 1% of the home value: $3,900.
In section C, I noticed NFCU was more expensive if I used them as my titling service but now that I knew they would beat competitors it was game on. I had an estimate for these services from another company called Chicago Title Insurance Company.
Chicago Title’s estimate was $562 cheaper than NFCU’s estimate. So thus far, I saved $10,000 off the asking price, $2,625 from the origination fee, $562 from the titling services, totaling $13,187 not including the $3,800 I saved from not going with SunWest and buying out their PMI for 1% of the asking price of the home, if we include that I saved a grand total of $16,987 that would have otherwise been financed.
Don’t let them shove paperwork down your throat if you are not ready. Usually you have 1 week after making an offer to find a lender! Don’t let anyone pressure you into going with the lender of your pre-approval. You can still negotiate if you had multiple pre-approvals. But, hopefully you figured all that out already.
Guess what?! It ain’t over yet! So, what’s next?
The next step is to get all your documentation in order. Trying to get straight answers about what was needed from NFCU was a nightmare so I’m going to make it easier for you with this list:
- 24 months of previous work history.
- Paystubs from the past 2 months (AT LEAST) until present. (They made me go back until October because I work for a union).
- Previous 2 years of IRS W2 Tax Transcripts
- Previous 2 years actual Tax Filings from my accountant
- Previous 2 years of W2’s from all employers from the past 2 years (if you’ve been with the same employer for the past 2 years it’ll be easier).
- Employer Verification Form (The bank will send this directly to your employer they cannot accept it from you, ASK TO BE CC’D IN THE EMAIL).
- Any stock portfolio statements
- Any retirement account statements (401k, IRA, etc)
- Written explanation of any discrepencies that come up in your Credit Report. It is a good idea to get a free copy once a year of it from annualcreditreport.com. Review it and figure out what you may need to explain ahead of time. Keep it short and simple, too much info is no good. For example, I had 1 late payment from August 2014. I was on a semester at sea and had limited access to the internet my payment for some reason didn’t go through (was probably on a weekend) and they reported it late anyway. I just missed the 7 year cut off by a couple of months for it to fall off my report and they still asked about it. I kept the description brief as I did here. They also asked me about a “credit inquiry” and whether any new accounts were opened because of a credit limit increase I asked Chase for. I told them “no new accounts were opened it was a credit limit increase request” and left it at that.
It is worth noting here: DO NOT OPEN ANY NEW CREDIT ACCOUNTS WITHIN THE YEAR YOU ARE PLANNING TO BUY A HOUSE. NO CREDIT CARDS, NO CAR LOANS, ETC. This will hurt you! WAIT UNTIL AFTER YOU BUY YOUR HOUSE!
I would HIGHLY recommend having all of this ready to go before they even ask. If I could go back and do it again I’d have had it ready BEFORE I decided on a lender.
Keep in mind, some lenders don’t offer PMI and they are not all credit unions with exclusive access like NFCU and USAA. I would do extensive research on lenders without PMI and read reviews. Filter their reviews by 1 star or less and see what people are saying. Keep an open mind and decipher who is just complaining to complain and who really had a bad experience. Then I’d look at the positive comments. The truth is somewhere in between.
Things to look out for…
If you’re looking at houses you’ve hopefully already picked a lender and have an idea of what you want to spend and an area you are looking at.
Let’s circle back to private mortgage insurance (PMI). PMI is offered to banks by third parties and they claim it is a requirement. PMI just insures the banks in the event that you miss a payment. If you put 20% down on a house PMI is waived as I mentioned before. So you may be asking why 20% down is thrown around so much. Why do some lenders require you to pay for PMI while others don’t and then why is it 20% and not 10. I can’t answer all of this but what I can do is explain what the 20% number means and how it may be advantageous to you.
To recap, 20% downpayment basically gives you 20% equity on your home or 80% loan to value. In other words, before you move in you’re paying for 20% of the asking price or you are financing 80% of the total asking price. You’ll hear it both ways, loan to value and 20% equity are essentially the same thing just two different ways of saying it. So how can this be advantageous?
Let’s say you do your homework and decide the lender you want to go with is the best option despite the fact that they require you to have PMI. They probably gave you a quote on how much it would cost to “buy out” the PMI if you aren’t putting 20% down. They have a way of prorating the amount and will give you a lump sum. So let’s say you are putting 10% down as I did but the home appraises for more than the asking price. Technically you’ve just gained equity whether the banks wants to admit it or not. So in a rare case you may be able to buy a house and have it re-appraised at a rate that gives you 20% equity or 80% loan to value (LTV) right out the gate.
The more likely scenario you will face is this… How long will it take me to reach 20% equity/80% LTV? Will the PMI payments in that length of time equal a greater # than the buy out? If the PMI payments over the length of time it will take you to reach 20% equity/80% LTV then the answer is obvious… buy out the PMI. But in some circumstances, you may be able to make some extra payments and it may be cheaper than buying out the PMI in which case this is the better option. This is just food for thought to keep in mind when you are getting your loan pre-approvals. Ask these questions early to get the answers so you have a good game plan going in.
You must ask yourself, can I offer this home owner 15% below asking and pay the equivalent of 5% down instead to create 20% equity, pay for my closing costs in full (this way they don’t get financed and throw off the balance we are trying to establish) and will my lender accept this and drop PMI. OR, if the lender does not accept these terms to drop PMI they will try to get you to “buy out” your PMI for a lump sum.
Overall, once you reach 20% equity or 80% LTV PMI falls off.. if you can some how reach those numbers quickly and cheaper and submit the notice to the bank you’ll be ahead of the schedule. There is no sense in paying for PMI if you don’t have to and just because you don’t put 20% down doesn’t mean you have to be stuck with PMI longer than necessary. There are ways around it.
Review all paperwork you receive. Make sure things match up! Don’t let the banks pull fast ones on you. They may lower numbers in one spot but raise them in another. Question why! And don’t let them say “it’s out of our control,” be aggressive and get the answer you deserve. If they can’t give you a bonafide answer they are full of $#!% and are doing it because they cut a cost for you somewhere else.
Do not waive inspections! This is the dumbest thing you could do! When looking for a home inspector you may get a recommendation from your Realtor but it doesn’t hurt to shop around and make phone calls. Ask your home inspector if they check all appliances and mechanical devices: dishwasher, stove, fridge, washer, dryer, HVAC system and/or Heat pump? Do they run the serial #’s for date of manufacturer, last service date, and any recalls? Do they inspect for structural damage, fires, flood? Do they check all windows to ensure they open? (this is important in the vent of an emergency, you will often find some windows don’t open all the way), electrical… do they test all electrical outlets? etc. (This was all stuff my home inspector did, he was excellent! He also answers my questions when I have them even after I moved in!)
Go to the home inspection when it happens! It is important to ask the home inspector questions but you may not think of them until you walk around with the inspector and see things for the first time. There were a few things I actually noticed that my home inspector didn’t!
If things come up in the home inspection don’t be afraid to ask the seller to address these issues! They are either going to have them fixed or they can give you a credit. Don’t settle for simple “no” answers! This is your house, you are spending a lot of money, the last thing you need is to move in and find out you need to come up with 10 grand to fix something. If the home owner does address issues, get a re-inspection done! Usually, if you go with the same person who did the home inspection the re-inspection is way cheaper. I spent $500 on my initial home inspection but $0 on my re-inspection (my realtor felt bad about some miscommunication and paid for it himself), otherwise it would have cost me $150 to have it re-done. I’d rather spend the $150 than end up having to spend a couple thousand.
There are other inspections you can pay for and they call vary in cost. I would say to have about $1,000 set aside for inspections/re-inspections.
Home buying is not an easy task and it is definitely not as easy at HGTV makes it seem. You must advocate for yourself from beginning to end because when it comes to real estate nobody is going to look out for you but you. Honestly, that goes for life in general. The only person who has your best interest in mind is you.
If you or someone you know is thinking about buying a home… Please share this article with them! If you have any questions drop them in the comments below! Feel free to reach out to me privately if you have any questions or suggestions!
Good luck with your future home buying!