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You’re sick of boring white walls, but your landlord doesn’t allow you to paint them. You’d love to adopt a puppy, but your apartment regulations say no. You’re tired of getting an annual letter that says your rent is about to increase.
You’re beginning to think that you should buy your own home. Why not become the master of your own domain? Paint the walls any color you desire? Replace the countertop? Install some IKEA cabinets?
Not so fast. Before you get hooked on the idea of homeownership, there are a few facts you need to know about the home buying process. Buckle your seatbelt – you’re about to enter a world that’s more complex than you ever imagined.
Fact #1: You’ll Need a Down Payment
First and foremost, you’ll need a down payment to buy a house before you even start the home buying process. This down payment will range from 3.5 percent to 20 percent of the full price of the house, depending on what type of mortgage you choose.
The U.S. Federal Housing Administration (FHA) insures loans on qualifying residential properties. These loans are colloquially called “FHA loans,” even though they’re not issued by the FHA – they’re issued by a qualified lender such as a bank or credit union.
FHA loans offer the best opportunity to buy a house with a tiny down payment, as they’ll allow first-time homebuyers to purchase property with only 3.5 percent down. On a $100,000 house, for instance, that’s only $3,500.
Your options are a little limited with FHA loans, as the agency will only insure 115% of the price of a median single-family home in your geographic area, up to a maximum of $271,050.
There are exceptions if you live in an area of the country that the FHA determines to be a high-cost area, in which case the cap is $625,500.
This calculator, created by the U.S. Department of Housing and Urban Development, allows you to estimate the median home price in your area.
The advantage to these loans is that you can become a homeowner with a small down payment. The disadvantage is that you’ll need to pay a mortgage insurance premium, or MIP, that will be divided into 12 installments and added to your monthly payments.
The rate varies based on your down payment and mortgage loan-to-value (LTV) ratio. If your LTV is 90% or less, you’ll pay MIP for 11 years. If it’s greater than 90%, you’ll pay MIP for the life of the loan. To qualify, you need a maximum credit score of 580 (although you may qualify for a reduced loan amount if your score is 500-579).
If you don’t want to get an FHA loan and you’re willing to put at least ten percent down, you can approach a traditional lender, like any bank or credit union. Most traditional lenders will offer conventional loans to candidates with good credit and a steady job history (defined as two years with the same employer), as long as you can offer a down payment of at least ten percent.
If you’re able to offer at least twenty percent down, however, you can avoid paying private mortgage insurance (PMI), the private-sector analog to MIP. In other words, a twenty percent down payment is best if you can afford it.
How to Start: Speak with a mortgage broker about your mortgage options. There are three ways that you can find a broker: ask your friends who are homeowners for recommendations, run a Google search for ‘mortgage broker’ in your city, or ask your real estate agent for recommendations.
Among these three options, the final one, asking your agent, is probably the best choice, as your agent will have a long history of working with a particular broker or handful of brokers who can help guide you to the right mortgage. That brings us to our next point.
Fact #2: You’ll Want an Agent (or an Attorney)
Okay, you don’t technically need a real estate agent to buy a house, but choosing to use one can make the home buying process less complicated. It is possible to act as an “unrepresented buyer,” which means you’d search the internet for properties and contact the listing agent to set up showings.
But if you want to make an offer on a house, a qualified person will need to write the offer for you. Licensed real estate agents are qualified to write offers; some (but not all) real estate attorneys are also qualified. If you don’t hire an agent, you’ll need an attorney representing your interests.
If you don’t have either an agent or an attorney, it’s possible that the listing agent will attempt to write the offer on your behalf. If the listing agent writes the offer for you, they’ll act as a “dual agent” or “designated agent,” which means they’ll represent both sides: the buyer and the seller.
This isn’t an ideal situation. You’re arguably better off having your own representation, so that your own agent (or attorney) can advocate for your interests, help you negotiate the strongest possible offer, and give you guidance as you go through the mortgage process.
A real estate attorney will cost you money out-of-pocket; using an attorney as a buyer’s representative may not be an ideal step for first-time homebuyers due to the complexities involved.
Enlisting the help of a buyer’s agent, on the other hand, won’t cost you anything. The seller pays for both the buyer’s agent and the listing agent through the commission that the seller pays on the house.
How to Start: Ask other homeowners in your area for recommendations for real estate agents they’ve used and liked. Check forums like the ActiveRain blog, where real estate agents often write content about specific neighborhoods and localities.
Real estate agents specialize in different arenas. Some specialize in working with investors, while others specialize in commercial properties like offices and warehouses.
Search the web and ask for referrals for agents who specialize in working with first-time “retail” buyers who are looking for residential properties in your particular neighborhood.
Fact #3: You’ll Need to Prepare a List of Needs and Wants
All right. At this point, you’ve enlisted the help of an agent who can show you properties and a mortgage broker who can help you find financing. The main step remaining is to figure out what type of property you want.
Create two lists: Must-Haves and Nice-to-Haves. Send both of those lists to your agent, and bring those with you as you look at properties.
For example, your ‘must-haves’ might include a specific neighborhood or school district. It might need to be walking distance from a specific place, like the dog park or your office. It might need a certain number of bedrooms or bathrooms.
Maybe you need a yard, or maybe you love sunlight so much that you consider south-facing windows as a ‘must.’ Obviously, staying under a specific price point is a must.
Your nice-to-haves, by contrast, might include details like hardwood floors instead of carpet, stainless steel instead of white appliances, or 10′ ceilings instead of standard height.
As a general rule of thumb, it makes sense to put “changeable” features on your ‘nice-to-have’ list. You can change out the flooring or the appliances, but you can’t change the school district or the direction that the windows face.
Buying a home doesn’t need to be an overwhelming process. Your job, primarily, is threefold:
- Save for a down payment (by spending less than you earn)
- Enlist a team of experts to help you (including a buyer’s agent and a mortgage broker)
- Compile a list of ‘must-haves’ for your new home
Finally, stay patient. It might take time to find the starter home of your dreams, but it’s better to wait for the right home than to select a spot that’s only moderately satisfying.
Over time, the right home will come along – and when you find it, you’ll enjoy the freedom that comes with painting your walls any color you want, adopting a puppy without having to worry about the landlords, and knowing that you’ll never get another letter letting you know your rent is increasing again.
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