Step 1: Evaluate your finances.
First, evaluate your current financial situation. Do you have enough money in the bank to own a home? In addition to paying a mortgage, you’ll have to cover costs such as taxes, insurance, utilities, repairs and more.
It’s safe to say homeownership is costly. But if you have the income and savings, it can also be a worthwhile investment. According to one analysis, after three years, the homeowner’s payment is lower than the renter’s monthly payment with the tax savings of homeownership. Plus, owning a home offers stability, privacy and the freedom to personalize your property that renting just doesn’t offer.
If you’re eager to buy a place to call your own, here are a few ways to organize your finances first.
Save for a down payment and closing fees.
Your lender may require a down payment anywhere between 3% and 20% of the loan. But if you put down less than 20%, you may also be required to pay private mortgage insurance (PMI). In addition, you should expect to pay closing costs and fees for the home inspection, appraisal, title search and attorney.
Having large amounts of credit card or other debt can hold you back from securing a loan. Your debt-to-income ratio indicates how much of your monthly income goes toward debt payments. To calculate yours, divide your total monthly debt payments by your gross monthly income. The right ratio can depend on the type of loan you’re applying for.
Understand your credit score.
When you apply for a home loan, lenders look at scores from three credit reporting companies: Experian, Equifax and TransUnion. Then they take the score that’s in the middle and apply it to your loan application. If you don’t know your credit score, find out by looking at a credit card statement, talking to a credit counselor, using a free credit score service or buying your score directly from a credit company.
Step 5: Shop for a mortgage.
As you shop for homes, talk with your lender about which types of mortgages and rates are available. Here are a few of the most common loan options you’ll want to understand:
Most home loans are “conventional loans,” which means they’re backed by private lenders, rather than by the government. An example of a government-backed loan is a VA loan, which you may qualify for if you were a member of the U.S. Armed Forces or National Guard — or if your spouse is eligible.
You’ll also want to decide on the term of your loan. Usually this means comparing a 15-year to a 30-year loan. With a 15-year loan, you’ll pay more money every month, but your interest will be less over time. A 30-year loan is designed to take longer to pay off, but your monthly payment may be more manageable. It’s a fast and aggressive approach vs. a slow and steady approach. Consider which one is right for you.
Interest rate type
Finally, you’ll want to ask your lender about adjustable vs. fixed-interest loans. An adjustable mortgage can change throughout the life of the loan. Alternatively, a fixed-rate mortgage doesn’t change over time, so you’re locked into a rate. Ask your lender about the pros and cons of both.