Buying Your First Home

Buying your first home is an exciting milestone, but it requires careful planning and understanding key financial concepts. Of course, there are many issues to consider when buying real estate, such as finding the right property, negotiating the price, home inspections, etc.

In this module we’re going to focus on the financial considerations when looking to purchase a home, whether it’s a stand-alone house or a condominium.

Homeownership Finances

“What am I getting myself into?”

Understanding the Full Financial Commitment

Owning a home involves more than just mortgage payments. You have to consider the total cost of ownership (TCO), which includes property taxes, insurance, maintenance, and repairs. Depending on your situation, other costs could include private mortgage insurance (known as PMI, for down payments less than 20%), homeowner association (HOA) fees, special assessments (common for condos), and upgrades like a new kitchen or bathroom.

All together, these costs can match—or even exceed—your monthly mortgage payment. And don’t forget about opportunity cost. For example, what could you earn if you invested the money in the stock market rather than in the down payment for your new home?

Renting vs. Buying

Calculate the TCO compared to renting, factoring in potential tax benefits (e.g., the mortgage interest deduction) and accumulation of home equity over time. There are several “Rent vs Buy” calculators online. Here are three. Since each one uses different assumptions to do the calculation, try all three to see how the numbers match up.

Rent vs. Buy Calculators

Benefits of Homeownership

Building Equity: Unlike renting, where payments contribute solely to the landlord’s equity, homeowners build equity as they pay down their mortgage and property values appreciate. However, home prices don’t always go up.
Stability and Freedom: Homeownership provides stability, allowing you to establish roots in a community and customize your living space to suit your preferences.

Potential Tax Advantages: Homeowners may benefit from tax deductions on mortgage interest, property taxes, and certain home-related expenses, depending on local tax laws and your financial situation.

Benefits of Renting

Flexibility: Renting offers greater flexibility, allowing you to relocate more easily without the responsibilities of selling a home.
Lower Upfront Costs: Renting typically requires a smaller upfront financial commitment compared to buying, as you generally only need to pay rent for the first and last months and a security deposit.
Maintenance and Repairs: Landlords are typically responsible for maintenance and repairs, freeing you from unexpected expenses and the time-consuming tasks associated with homeownership.

Here’s a 15-minute video by Humphrey Yang that explains the tradeoffs of renting vs buying in detail.

Getting Ready to Buy

Are You Financially Prepared?

Evaluate your financial health, including income stability, debt obligations, and ability to save for the down payment and closing costs.
Calculate your debt-to-income (DTI) ratio to gauge your ability to manage mortgage payments alongside existing debts. Many lenders prefer that your monthly housing costs (including mortgage principal, interest, property taxes, and homeowners insurance, often abbreviated as PITI) are no more than 28% to 31% of your gross monthly income.

Consider your career trajectory and future income potential to ensure you can sustain the TCO over the long term.

Build a Financial Foundation

Before you start looking through the real estate listings, you have to set a firm foundation for the financial obligations of owning and maintaining a house or condo.
Work to improve your credit score to qualify for favorable mortgage rates and terms. A score of 760 or above will most likely get you the lowest rates.
Create a realistic budget that accounts for housing expenses, savings goals, and emergency funds. Refer to TCO, above.
Consult with mortgage professionals to assess your financial readiness and explore mortgage pre-approval options.

Seek Out Educational Resources and Support

Take advantage of homeownership workshops, online resources, and educational seminars offered by financial institutions, community organizations, and government agencies.
Seek guidance from experienced real estate agents who can provide insights into local housing markets, property values, and negotiation strategies.
Network with other homeowners or recent buyers to gain firsthand perspectives and practical tips on navigating the home-buying process.

Mortgage Basics

More than One Kind of Mortgage

Commit yourself to learning about different mortgage options, including fixed-rate mortgages that offer stable monthly payments and adjustable-rate mortgages (ARMs) with fluctuating rates based on market conditions. Evaluate which mortgage type aligns best with your financial situation, risk tolerance, and long-term plans for the property.

Consider specialized loan programs, such as FHA or USDA loans for first-time buyers or VA loans for eligible veterans and service members, which may offer lower down payment requirements or other benefits.

Qualifying for a Mortgage: Pre-Approval

Understand the key factors lenders consider when evaluating your mortgage application, such as your credit score, income stability, employment history, and debt-to-income ratio.
Gather necessary financial documents, including pay stubs, tax returns, bank statements, and proof of assets, to streamline the mortgage pre-approval process.
Consult with mortgage lenders early to explore pre-approval options and receive guidance on loan programs and interest rates based on your financial profile. Some sellers will require pre-approval as a condition for accepting your offer to purchase. They want to know there will be no hiccups that will scuttle the deal.
With a pre-approval letter in hand you can confidently explore homes within your budget range and know that sellers will take your offer seriously.

Here’s a 10-minute video from realtor Shaheedah Hill on the various mortgage options.

Action Plan

Know your credit score and check your credit reports

First, it’s important to point out that your credit score and your credit report are not the same. Yes, they are provided by the same three companies (Equifax, TransUnion, and Experian), but they are not usually included together. Also, credit reports are free, credit scores can be free.

Credit Reports

Get your credit reports for free at annualcreditreport.com. (Do not use any other website for this service; other sites might be scams that will steal your identity.) There you can check your three credit reports. It used to be that you could check them annually for free (hence the name of the website), but in 2023, the law changed allowing you to get free reports once each week. Checking your credit report regularly offers the benefit of monitoring your financial health, identifying errors that could lower your credit score, and detecting unauthorized activities or signs of identity theft.

Credit Score