Buying your first home can be an exciting and nerve-wracking experience. You not only have to find the right place, but you also have to find the right mortgage. With low inventory in many local markets and rising home prices nationwide, finding an affordable home can be a challenge.
You might feel pressure to find a home right away, but before you visit houses and start making offers, your financing needs to be in order. That involves making sure your credit history and credit score, debt-to-income ratio, and overall financial picture will convince a lender that you’re creditworthy enough to borrow money. Many first-time buyers tend to make a number of missteps in the mortgage and home-buying processes. Here are some of the most common mistakes to avoid.
Obvious credit issues—a history of late payments, debt collection actions, or significant debt—could mean less-than-ideal interest rates and terms, or even an outright denial.
Boost your score by paying bills on time, making more than the minimum monthly payments on debts, and not maxing out your available credit.
Sellers are more likely to consider offers from buyers who have a pre-approval letter from a lender.
Apply for a mortgage with a few lenders to get a better sense of what you can afford and clearer comparison of loan products, interest rates, closing costs, and lender fees.
Not Keeping Tabs on Your Credit
No one likes surprises, especially before buying a house. If you or your spouse have obvious credit issues—such as a history of late payments, debt collection actions, or significant debt—mortgage lenders might offer you less-than-ideal interest rates and terms (or deny your application outright). Either situation can be frustrating and can push back your ideal timeline. To tackle potential problems in advance, check your credit report for free each year at annualcreditreport.com from each of the three credit reporting agencies: Transunion, Equifax, and Experian. Look for errors and dispute any mistakes in writing with the reporting agency and creditor, including supporting documentation to help make your case. For additional proactive help, consider utilizing one of the best credit monitoring services. If you find current but accurate negative items, such as late payments or delinquent accounts, there’s no way to remove those items quickly. Unfortunately, they’ll stay on your credit report for seven to 10 years. But you can boost your score by paying your bills on time, making more than the minimum monthly payments on debts, and not maxing out your available credit. Above all, be patient. It can take at least one year to improve a low credit score.
Also, check to see if your bank, credit union, or credit card provider gives you free access to your credit score. If your score is below 620, you may have trouble getting approved for a conventional mortgage. To qualify for an FHA loan, you’ll need a minimum credit score of 580 to use the program’s maximum financing (3.5% down payment), or a minimum score of 500 with a 10% down payment required FHA. “Credit Requirements for FHA Loans.” Accessed Dec. 22, 2020.
Searching for Homes before Getting Pre-Approved
When you find the perfect house, there’s no time to waste. In many hot markets, you’ll be up against multiple bids and stiff competition. Sellers are unlikely to consider offers from buyers who don’t have a pre-approval letter from a lender. A pre-approval letter shows a seller that the lender has done its due diligence to ensure you have the means and motivation to repay your bills, based on your credit history and score, income and employment history, financial assets, and other key factors. In a competitive market, sellers won’t take you seriously without a pre-approval letter, and you could lose out on a home you really want. This document lists the loan amount for which you qualify, your interest rate and loan program, and your estimated down payment amount. In some cases (especially for higher-cost homes or in super competitive markets), lenders might ask you to provide proof of funds for a down payment. The pre-approval letter also includes an expiration date, usually within 90 days.
Not Shopping Around for a Mortgage
Homebuyers can leave a lot of money on the table when they don’t shop around for a mortgage. Applying for a mortgage with a few different lenders gives you a better sense of what you can afford and lets you make an apples-to-apples comparison of loan products, interest rates, closing costs, and lender fees. More important, shopping for a mortgage puts you in a better position to negotiate with lenders to get the best deal possible. As you shop lenders, pay attention to fees and closing costs, which can add up at the closing table. While some of the pricing variances may not seem big on paper now, they can add up to significant cost savings over the lifetime of your loan. Keep in mind that some lenders will offer you discount “points,” a way to buy down your interest rate upfront. This increases your closing costs. And other lenders that promote low or no closing costs tend to charge higher interest rates to make up the difference. Homebuyers in the U.S. pay, on average, $5,749 for closing costs, according to a 2019 survey from ClosingCorp, a real estate closing cost data firm. In addition to checking with your current financial institution (either a bank or credit union), ask a mortgage broker to shop rates on your behalf. Mortgage brokers aren’t lenders; they act as a matchmaker between you and lenders in their network. They can save you time and money by comparing multiple lenders who have products that fit your needs. Also, it’s worth looking into some direct lenders, either online or in-person, to see what they offer. Using a mortgage calculator is a good resource to budget some of the costs.
Buying a More Expensive House than You Can Afford
When a lender tells you that you can borrow up to $300,000, it doesn’t mean you should. If you max out your loan, your monthly payments might not actually be manageable. Typically, most prospective homeowners can afford a loan amount between 2 and 2.5 times their gross annual income. In other words, if you earn $75,000 per year, you might be able to afford a home priced between $150,000 and $187,500. Mortgage calculator can help you estimate monthly payments, which is a better barometer of whether you can afford a home in a certain price range. Mortgage lending discrimination is illegal. If you think you’ve been discriminated against based on race, religion, sex, marital status, use of public assistance, national origin, disability, or age, there are steps you can take. One such step is to file a report to the Consumer Financial Protection Bureau or with the U.S. Department of Housing and Urban Development (HUD).
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