Buying your first piece of real estate can be an exciting and overwhelming time in your life. However, there are many factors to consider, and keeping them all straight can be a full-time job on its own. Lucky for you, you’re reading my Ultimate Real Estate Buying Guide. Here, I’ll go through many factors that can be considered when buying not just your first home but any real estate purchase.
To Buy or Not to Buy?
The first question you might want to ask yourself is if buying a house is the right choice for you in the first place. Many people will say that paying rent is throwing money right out the window. Although they have a point, that doesn’t mean that buying is right for you. Here are some reasons why you might want to consider or continue to rent.
You Don’t Have a 20% Down Payment Ready
Is it possible to buy a home with less than 20% down? Sure, but it’s not the best of ideas. For one, you’ll end up paying Private Mortgage Insurance, or PMI for short. PMI is an extra fee tacked on to your mortgage to protect the lender. Once you are paying it, you are typically stuck with it until you reach the 20% equity mark, but even then, lenders are not required to remove it for a few years.
Lenders and sellers won’t take you as seriously without the standard 20% as well. Not having 20% ready could hurt your chances of securing a loan or getting the house you want. There are often multiple bids on a home, and factors like the down payment size come into play. To make sure you get the best deal and don’t get passed over for your home, make sure you have that 20% and then some ready to roll.
Finally, the less money you put down, the higher the mortgage amount. It’s not exactly rocket science, but still worth saying. A bigger mortgage means a higher payment and more interest you’ll pay on the home throughout the loan. By saving up a few extra thousand bucks, you’ll save yourself three times as much in the long haul.
You Carry Too Much Other Debt
Possibly contributing to your lack of a more significant down payment could be the fact that you carry too much other debt as well. Student loans, car payments, credit cards, and other debt can add up and hurt you too. For one, lenders look at your debt to income ratio, basically how much you owe vs. how much you make. If that ratio doesn’t look good to them, you’ll get a higher interest rate, which, again, could cost you tens of thousands throughout the loan.
More importantly, it means you likely aren’t ready to take on a massive amount of debt, financially speaking. Having a home means not just the debt but a lot of other expenses as well. It’s best to pay off as much of your other debt as possible before adding a mortgage to the mix.
You Can’t Handle Recurring Costs
As mentioned above, there is a whole lot more to owning a home than just a mortgage. You’ll have property taxes to pay, maintenance costs(lawn, painting, etc.), repairs to pay for, and a slew of other things burning a hole in your wallet. The last thing you want to be is house poor. If all your money goes into keeping your home up and running, then you’ll be strapped for cash, and that’s never a good thing.
You Don’t Have Steady Income
If you don’t have solid job security or a steady source of income, then you might want to continue renting. If something were to happen and your income changes for the worse, being in a renting position is much more favorable. For one, as mentioned above, there are few costs when it comes to renting. Two, if you do need to downsize or move to a more affordable place, picking up and finding a new place to rent is more manageable than selling your home.
Poor Credit Score
Ninety percent of the time, you shouldn’t care about your credit score; however, your mortgage is the exception to the rule. As per usual, it comes back to that pesky interest rate. If your credit score is low, your rate won’t be as good as it could be. In fact, paying rent on time could help improve your credit. Needless to say, getting your credit score as high as possible will be an essential part of getting ready to purchase a home.
Not Ready To Settle
Not every reason to rent is financially related. For some of us, we just aren’t ready to settle down and say this is where we want to set up shop for a long time. Maybe you’ve always wanted to live in the city or a different part of the country, who knows, but if there is a possibility that you’ll move within a few years, it might make sense to continue renting. Again, it is much easier to pick your stuff up and move when you are renting rather than needing to go through the process of selling a home.
Forever Home vs. Starter Home
Ok, so you’ve decided you’re ready for homeownership, excellent job, now another big decision lies in the waiting. Do you want to buy a starter home or your forever home? Let’s go over the reasons for both. But first…
What Is A Starter Home
A starter home is typically seen as a temporary home. Typically seen as a place to get your foot in the door, literally, and stay for 2-5 years and then move on to buying a bigger home.
What Is A Forever Home
A forever home is precisely what it sounds like, a home you’d hopefully stay in forever. Ok, maybe not forever, but let’s just say for the long term. These are homes you’d typically buy once you’ve started a family in a location you plan on settling in.
Starter Homes Are Less Expensive
The biggest draw to starter homes is that they are typically less expensive than what people would consider forever homes. Starter homes might be good for a newlywed couple in good financial shape but can’t yet afford a larger house. With the lower starting point, it’s easier to save up the 20% down payment and will be less stressful financially overall.
Starters are Less Expensive To Furnish and Maintain
Not only are starter homes less expensive on initial purchase, but the costs to maintain and furnish them are typically lower too. This is basically because they are, more often than not, smaller homes. Smaller homes mean less property(lower taxes then), fewer rooms to furnish, cheaper to heat and cool, less to fix, the list goes on.
Starter Homes Will Help Build Equity Faster
One of the main reasons for buying a starter home is to build equity that will allow you to get to your forever home faster. The idea is, with just saving, you’re only gaining what you put aside. With a starter home, you’re essentially doing a two-prong attack. For one, you’re paying down the mortgage, but the hope is that your home will rise in value faster than you could have saved your money. Therefore, when you sell the house, you have that much more to put toward a larger home.
Your Home Could Lose Value
With the previous paragraph in mind, there is no guarantee that your home will rise in value. Unless you plan on renovating, the value of your home is typically something you don’t have a lot of control over, if any. We can never predict the future, but take note of the trend of residential prices. Most of the time, the trend takes a few years to reverse course. If the prices of homes are falling, buying a starter home may not be a great idea. There are other ways to invest your money that are more likely to bring in capital gains.
Worse possible case is that your mortgage goes “underwater,” which means the house is worth less than you currently owe on the mortgage. In this scenario, you’re entirely stuck as by selling your house, you’d be losing money on the deal. When determining if you want to buy a starter or forever home, be sure you are very aware of which way house prices are going.
How Much Home Do You Need?
A significant factor in what kind of home you buy is how much you need. Do you have kids yet or plan on having them in the near future? What other needs do you have? For example, maybe you work from home and need a home office. If a smaller home will do for now a few years, a starter home may be for you. However, if you already have a kid or two, or they are on the way, you might want to think about a more permanent home right off the bat.
How Much Home Can You Afford?
This again goes back to the mortgage and all the other costs that come with owning a home. The bigger the house, the bigger the costs. If you don’t foresee your income rising anytime soon, a smaller starter home is a safer option. If you already make enough or there is a clear path for you to make more money, starting out a bit high might be a risk worth taking.
You’ve Settled into Your Lifestyle
There are a lot of factors that can affect our lifestyle choices. Age, kids, marriage, and work, just to name a few. If you think that the way you are currently living life is how it will stay for a long time, then, by all means, find a house you’ll want to live in for a long time, it will be a good investment. However, if some of these factors could change, especially if they might change soon, the starter home might not prove worth it. Remember, you’ll need to have equity and a rise in your home’s value to make it worth your time. If there is a good possibility something significant in your life will change before you’ve had time to achieve both of those aspects, the starter home might not be a good option.
Location, Location, Location
The almighty rule when it comes to real estate. Location, Location, Location. The location of your home is so important. Are you close to family, friends, and work? Is the school district good? Are you near major highways(if that’s important)? Again, if anything in your life might change, that would mean the location you are looking in doesn’t work, then maybe you go with a starter home. The lower investment makes it easier to get out if something happens where you’d need to be in a different location.
Fixer Upper vs. Move-in ready
Moving right along, now you’ve decided on how long you want to live in your new home, but do you want a fixer-upper or a home that’s more move-in ready? There are pros and cons to both, and it mainly depends on what kind of homeowning experience you’d like to have.
Fixer Upper Will Cost Less
The biggest draw to owning a fixer-upper is the purchase price. I emphasize purchase because, by design, a fixer-upper will have other costs, but we’ll get to that in a bit. By keeping the initial price low, you’ll come out on top in a few areas:
- Easier to put down 20%
- Avoid PMI
- Lower Mortgage Payments
- Less Interest on the Loan
- Protect Yourself in Case of Income Loss
These all revolved around essentially have the home cost less if left alone. In the case of future income, if anything were to happen, you’d have less of a burden from the mortgage, potentially making rough times a little less rough.
You Can Make A Fixer Upper What You Want
I guess technically, nothing is stopping you from renovating a move-in-ready house, but that kind of defeats the purpose, right? One of the best parts of a fixer-upper is that, little by little, you can turn it into the house of your dreams. Taking a room and making it the way you want it can be worth its weight in gold.
Pay For Renovations When You Can Afford Them
If the whole point of getting a fixer-upper is around paying less on the mortgage and saving interest. Don’t go taking out more loans to fix the place up. By having lower mortgage payments, you can use that extra money to save up for the significant renovations you might want.
If you are really handy, you can start making some of the renovations yourself. With all the information out there, it’s easier than ever to take on a more significant project on your own. Maybe you call in the experts for the big stuff like plumbing and electric, or maybe you’re good at that too. By doing the work yourself, you’ll be saving a ton of money on labor costs, and you’ll have a HUGE sense of accomplishment when it’s all finished.
Move-In Ready Homes Will Have Higher Property Taxes
Property taxes are based on the value of your home, and when you first move in, that’s typically the selling price. Therefore, logic dictates that having the lower sale price, the fixer up will have lower property taxes as well, at least in the beginning.
Towns and other municipalities will occasionally reassess the homes residing in it. Depending on how quickly you renovate your home will determine how quickly your taxes rise. It’s always a good idea to take things slow when it comes to renovation; taxes are just another point in case here.
It Depends On What Needs Fixing
Not all fixer-uppers are created equal. Some renovations are expensive and worth the price tag. Others are just a drag on your budget that would be better spent elsewhere. When looking at buying a house that needs some lovin’, make sure it’s in the right areas. Kitchen, bathrooms, or other rooms typically updated by most homeowners are good places to spend your money. If the repairs are more along the lines of roofs, floors, walls, aka, the bones or guts of a house, it might be better to move on from that house.
Move-In Ready Will Be Less Stressful
There is absolutely something to be said about the ease of living in more of a move-in ready house. Maybe easy isn’t the right world, but peace of mind more or less. You won’t be stressing out about getting quotes, having crews in and out of your house, and forking over large amounts of money (it still hurts even if you’re saving on the mortgage). Move-in ready houses allow you to relax and enjoy the house after what was likely a stressful house hunting experience.
Move-In Ready Doesn’t Mean It’s Perfect
Obviously, a home considered move-in ready will require much less work than a fixer-upper, but that doesn’t mean that you won’t have any renovating or repairs to take care of. Any house will eventually need the basics repaired or replaced. However, even move-in-ready homes might need some major updates relatively soon. Houses can be full of surprises no matter how much due diligence you do. No matter what kind of home you buy, you should be financially prepared in case a significant expense suddenly comes into play.
15 Year Mortgage vs. 30 Year Mortgage
Alright, now we’re moving right along here. You’ve found the perfect house; now it’s time to talk about the super exciting topic of mortgages! Although there are many kinds, the most common two for residential real estate are the traditional 30 year and 15-year mortgages. Let’s go through the pros and cons of each.
Special Note: If a lender tries to sell you on an Adjustable Rate Mortgage (ARM), immediately get up and leave. ARM’s are known to almost always turn out poorly for the borrower.
30 Year Payments Are Lower, But Their Rates Are Higher
Math tells us that when paying off the same amount of money over a longer period of time, the monthly payment required will be lower. Thirty-year mortgages typically give us the lowest possible monthly payment, but that comes at the price of having a higher interest rate. The lower payment may allow you to get into a bigger house if necessary, but you could also be using the money saved versus a 15-year mortgage to invest for the future too.
You’ll Pay Far Less In Interest With a 15 Year Loan
Although you’ll have a higher monthly payment, a 15-year mortgage will certainly have its advantages. The biggest one being the vast difference in the interest you’ll pay throughout your loan. On a $150,000 home, with a 20% down payment and a 3.8% interest rate, you’d pay almost 82k in interest alone. Keeping everything the same, paying off that same loan in fifteen years, you’d only pay about 38k in interest. That’s 44k in savings and over 1k a year!. Don’t forget that for the 15-year mortgage, your interest rate will be lower, so the savings are more significant than that.
You’ll Build Equity Faster With a 15 Year Loan
Another side effect of paying more money and less interest toward your mortgage will be that you’ll be gaining equity in your home that much faster as well. If you went the starter home route, this would help you immensely when selling your home to look for a bigger one. Even if you are in your forever home, building equity will always be a valuable investment.
Option To Pay Extra On A 30 Year Mortgage
A fifteen-year mortgage more or less forces you to pay off your mortgage faster, but nothing is stopping you from doing so with a 30-year mortgage, though. Lenders will happily take extra payments from you whenever you decide to do so. You can pay extra every month, every six months, or make a larger payment once per year; it doesn’t matter to them. The great part about it is that it’s totally up to you. If you can’t afford to pay extra that month, then don’t. On the other hand, if you get a bonus or raise, have at it and pay off that mortgage faster.
There is always a ton to consider when buying a house. Deciding to rent or buy at all in the first place is your first step. Then you’ll need to determine how long you’ll be in the home and if you want to be in charge of fixing it up or having a ready-made home to move into. Finally, once you’ve found the perfect home for you, it’s time to figure out the finances of your mortgage type. Hopefully, you’ve found some helpful information in the Ultimate Real Estate Buying Guide provided here.
Jeff is a fan of all things finance. When he’s not out there changing the world with his blog, you can find him on a run, a Mets game, playing video games, or just playing around with his kids.