As a first step in preparing for a home purchase, it’s important to determine if you are actually ready to become a homeowner. Are you able to stay put for a while? Is your income fairly stable? If you answered yes to both questions, the next step is to carefully consider your finances. Resolve to do the following in the New Year and you could be ready to purchase a home sooner than you think – maybe even ahead of any anticipated rate increases.
Do you have credit card debt, auto or student loans? The amount of debt you are carrying is important because it factors into your debt to income (DTI) ratio which lenders use to qualify you for a home loan. It is calculated by dividing all of your monthly financial obligations (debt) by your gross monthly income. You generally want to aim for DTI less than 36%.
Set Up a Budget
Take a close look at what you spend every month. Start with a budget worksheet to organize your monthly expenses. To create some padding in your budget to allow for the unexpected, calculate 10% of your total expenses and add that to a miscellaneous expense category. Remember to include your savings as an expense.
A rent vs buy calculator will also allow you to do a simple payment comparison. But, be sure you consider all housing expenses, not just the mortgage. The amount you pay in rent may be similar to what you would pay in principal and interest on a mortgage loan, but you also need to take into account additional homeownership expenses like property taxes, insurance, HOA fees, trash pick-up and utilities.
Create a Savings Plan
Once you’ve established a budget, determine where you can cut expenses. Set a goal for paying down debt and saving for a down payment. Consider automating your savings plan to commit a certain percentage to be routed to a savings account each month.
While it is generally a good practice to have a 20% down payment to avoid private mortgage insurance (PMI), there are options to put down as little as 3.5%.
Do a Credit Check-Up
Everyone is entitled to one free credit report per year. Visit annualcreditreport.com to request your report and review it for errors and unusual activity. If there is something that needs to be corrected you can dispute the accuracy of the information with a consumer reporting agency under the guidelines of The Fair Credit Reporting Act (FCRA). Under this law, the agency must conduct an investigation at no charge and make any adjustments within 30 days.
Prepare for the Mortgage Process
After your budget is set and your savings plan is in place, it’s time to gather documentation and apply for a mortgage pre-approval. Be prepared to provide verification of your income with the last two years of W-2s, last two years of federal tax returns and your most recent 30 days paystubs. To verify personal assets you will need to provide the last two months of bank statements and quarterly investment/401k and retirement statements. Depending on your specific situation, additional items may be required so organize any documents that relate to your financial status.
To learn more about the pre-approval process and begin your journey to homeownership, contact a loan advisor today!