When trying to qualify for a loan and purchase a home, you'll need funds for the down payment and closing cost (money due the day you finalize your purchase). The down payment on a home typically ranges from 3.5% to 20%. Different loan types will have different down payment requirements (ie VA = no down payment, FHA = 3.5% minimum). The ideal down payment would be a minimum of 20% so that you are not required to purchase private mortgage insurance. Closing costs are generally 3% to 5% of the loan amount. For example, if you are looking to purchase a $300,000 home with a 20% down payment, you'll need $60,000 for the down payment and an estimated $7,200 to $12,000 for closing costs (Total in cash = $67,200-$72,000).
Besides the down payment and closing cost, you will also need to show a cash reserve. The lender may use your cash reserve as a factor to help determine the amount of your home loan.
Check credit score
Credit scores range from 300 to 850 on the FICO scale. An excellent credit score would be 720 and higher. Usually this score would get you the best interest rate on a home loan. A score of 680 to 719 would be considered a good credit score. If your credit score is below good, you are at risk of a higher interest rate, lower loan amount or no loan at all. If you're score is low, take some time and rebuild your credit by paying your bills on time and keeping a low balance. Also make sure you do not open too many credit card accounts unless you intend to use them.
Know your budget
The general rule of thumb is: your housing expenses should not exceed 35% of your total income. So if you are making $100,000 a year, your housing expenses (mortgage, property tax, insurance, water, electricity, internet, etc.) per month should be less than $2916. This is just a rule of thumb. Each individual has their own financial situation. Some individuals may have an added monthly student loans while others have car payments. 35% is a good starting point. You can adjust the 35% higher or lower depending on your lifestyle.
Home owner repairs and maintenance
Besides the mortgage, property tax and home insurance make sure there is budget for repairs and maintenance. Down the road you may need to replace the plumbing, furnace or air conditioning. The rule of thumb is to budget 1% of the home's purchase price per year.
Private mortgage insurance
If the down payment is less than 20%, it is required to obtain private mortgage insurance (PMI). PMI protects the lender in case the owner defaults on the loan. The rule of thumb for PMI cost is half of 1% of the loan. So for example, if you put 10% down on a $300,000 home, your estimated annual PMI cost would be $300,000 x 90% x 1/2% = $1,350. That would be $112.50 per month added to your mortgage payment. Once the loan amount has reached 80% or less of the home's value, the homeowner may request the lender to cancel the PMI. Some lenders will automatically remove the PMI once 80% is met.
Pre-approved means that the lender has reviewed your financials and pre-determined the maximum amount they are willing to lend you. Pre-approval serves two main purposes: 1) Real estate agents generally require a pre-approval letter before working with you. 2) The pre-approved loan amount will set your upper price range when searching for homes. In order to obtain a pre-approval letter, the lender will normally check your credit report and ask for documentations such as pay stubs, bank statements, investments, etc. Once everything checks out and the lender deems you qualified for a home loan, the lender will issue you a letter stating your pre-approved maximum loan amount.
House hunting will involve asking yourself what you are looking for in a home (ie location, size, school districts, light, neighbors, etc.). A list should be created with two columns: non-negotiables and would-like. The non-negotiable column should contain items that are deal breakers. For example, the home must be located in zip code 92131 with a 2000 sq. ft. minimum. If the home does not meet this requirement, there is no reason to think about or even visit it. The would-like column things are items that are nice to have but not absolutely necessary. An example could be a pool or a bathroom with a separate bath and shower. Discuss this list with your agent. The agent will create a search criteria that will help narrow down the homes to only the ones that meet your non-negotiables. When you begin visiting homes, make sure to bring one copy of your would-like list to each home. Check the home for the criteria on the would-like list. Mark down all the items on your would-like list that the home meets. At the end of the day/week, compare all your lists together. When you start house hunting you'll be visiting many homes and this is one great way to easily compare one home to the next.
When you find that special home, an offer will need to be made. This offer should be based on comparable sales in the same area. Your agent should research the recent sales and provide you a list of this data to help you put in a reasonable offer. This offer will be accepted, rejected or a countered by the seller.
Get a home inspection
Before purchasing a home, make sure you get a home inspection by a licensed professional. An inspection typically costs less than $400. An inspector's job is to do an examination of the home and inform the buyer of any current or future problems in the home (ie structural, electrical, etc.). If problems are found, the buyer may ask the owner to repair the damage, decrease the price by the amount of the repair or even retract the offer. A home inspection is in the buyer's best interest and is essential in protecting their investment.
Closing occurs after the offer has been accepted and typically takes 30 days. During that time, you'll have the home inspection completed and negotiate with the seller for any possible repairs. At the end of the 30 days, you will need to sign on all the documents to transfer the ownership of the home with escrow. Escrow is a neutral third party handling the transaction between buyer and seller. You will also need to bring a check or submit a bank wire for all the closing costs. Once all the documents are signed, the deed will be registered in your name and you will receive the keys to your new home.