Buyer Tips
Buying a Home
1. Don't buy if you can't stay put.
If you can't commit to remaining in one place for at least a few years, then owning is probably not for you, at least not yet. With the transaction costs of buying and selling a home, you may end up losing money if you sell any sooner.
2. Start by shoring up your credit.
Since you most likely will need to get a mortgage to buy a house, you must make sure your credit history is as clean as possible. A few months before you start house hunting, get copies of your credit report. Make sure the facts are correct, and fix any problems you discover.
3. Aim for a home you can really afford.
The rule of thumb is that you can buy housing that runs about two-and-one-half times your annual salary. But you'll do better to use one of many calculators available online to get a better handle on how your income, debts, and expenses affect what you can afford.
4. Don't worry if you can't put down the usual 20 percent.
There are a variety of public and private lenders who, if you qualify, offer low-interest mortgages that require a down payment as small as 3 percent of the purchase price.
5. Buy in a district with good schools.
In most areas, this advice applies even if you don't have school-age children. Reason: When it comes time to sell, you'll learn that strong school districts are a top priority for many home buyers, thus helping to boost property values.
6. Get professional help.
Even though the Internet gives buyers unprecedented access to home listings, most new buyers (and many more experienced ones) are better off using a professional agent. Look for an exclusive buyer agent, if possible, who will have your interests at heart and can help you with strategies during the bidding process.
7. Choose carefully between points and rate.
When picking a mortgage, you usually have the option of paying additional points -- a portion of the interest that you pay at closing -- in exchange for a lower interest rate. If you stay in the house for a long time -- say five to seven years or more -- it's usually a better deal to take the points. The lower interest rate will save you more in the long run.
8. Before house hunting, get pre-approved.
Getting pre-approved will you save yourself the grief of looking at houses you can't afford and put you in a better position to make a serious offer when you do find the right house. Not to be confused with pre-qualification, which is based on a cursory review of your finances, pre-approval from a lender is based on your actual income, debt and credit history.
9. Do your homework before bidding.
Your opening bid should be based on the sales trend of similar homes in the neighborhood. So before making it, consider sales of similar homes in the last three months. If homes have recently sold at 5 percent less than the asking price, you should make a bid that's about eight to 10 percent lower than what the seller is asking.
10. Hire a home inspector.
Sure, your lender will require a home appraisal anyway. But that's just the bank's way of determining whether the house is worth the price you've agreed to pay. Separately, you should hire your own home inspector, preferably an engineer with experience in doing home surveys in the area where you are buying. His or her job will be to point out potential problems that could require costly repairs down the road.
Are you ready to Own?
Before we get into the nuts and bolts of this lesson, a bit of advice for first-time homebuyers (current owners may want to skip to the following section; sellers to the final one):
Sure, owning a home is one of the key elements of the American Dream, and not by accident. Home ownership means you no longer pay monthly rent for the roof over your head. Now you own it, and most of what's under it too. You can do what you want with your house (within reason). When you leave, you can sell it to recoup the purchase price and -- with any luck -- earn a profit too.
Don't kid yourself. Like most good things in life, home ownership comes with a slew of disadvantages, responsibilities, and downright headaches. In fact, it's probably the second biggest financial commitment most people ever make -- the biggest being children. So before going any further, consider whether your lifestyle and finances make homebuying a smart move.
Let's start with lifestyle. Except in a roaring real estate market, it usually doesn't make sense to buy a home you'll own for less than three or four years. Reason: the high transaction cost of buying and selling property means you could lose money on the deal. If you do make money on the deal, you'll pay capital gains taxes if you're in the house less than two years.
So ask yourself if you can really stay put for that long. Will you need to move because you are transferred by your current employer or a new one? Are you thinking of going back to school? Will your income remain steady or grow, or is it likely to decrease?
Some more mundane, but equally important, questions: Do you want to call the plumber, and pay for his services, every time a pipe leaks? Or would you rather leave it to the landlord to fix the plumbing, paint the walls, patch the roof, and buy a new refrigerator? There's nothing wrong with that.
On the financial side, one key question is whether it costs more, on average, to rent or own in your area. If you want to do it by hand, the rule of thumb is that if you pay 35 percent less in rent than you would for owning -- including the monthly mortgage, property taxes, and any homeowner's fees -- then it's smarter to continue renting. You could also ask a real estate or rental agent to help you figure this out.
In a down market, when home values are staying the same or even falling, it may make even more sense to rent.
Only if all those answers still point towards owning should you proceed to the next step -- lining up the cash.
Setting your budget
Your credit rating is the key to being able to get an attractive mortgage.
For most people, buying a house involves a double financial whammy.
First you have to assemble a pile of cash for the down payment and closing costs. Then you must convince a bank to lend you an even more staggering sum - generally 80 percent or more of the purchase price.
So your first step, even before you start the actual hunt for a property, should be to get your financial house in order.
Start with your credit
Credit reports are kept by the three major credit agencies, Experian, Equifax, and TransUnion. Among other things, they show whether you are habitually late with payments and whether you have run into serious credit problems in the past, such as a bankruptcy within the past seven years.
A credit score is a number calculated by Fair Isaac based on the information in your credit report. You have three different credit scores, one for each of your credit reports.
A low credit score may hurt your chances for getting the best interest rate, or getting financing at all. So get a copy of your reports and know your credit scores. Try Fair Isaac's MyFICO.com, which charges upwards of $50 for all three reports and scores, as well as an explanation of your score and tips for improving it.
Errors are not uncommon. If you find any, you must contact the agencies directly to correct them, which can take two or three months to resolve. If the report is accurate but shows past problems, be prepared to explain them to a loan officer.
Know what you can afford
Next, you need to determine how much house you can afford. You can start with one of the Web's many calculators, like the ones on CNNMoney.com and Quicken.com. For a more accurate figure, ask to be pre-approved by a lender, who will look at your income, debt and credit to determine the kind of loan that's in your league.
The rule of thumb here is to aim for a home that costs about two-and-a-half times your gross annual salary. Use this only as a general guide, though. Many factors can change that equation. If you have significant credit card debt or other financial obligations like alimony or even an expensive hobby, then you may need to set your sights lower.
The size of your down payment will also determine how much you can afford.
Line up cash
If you haven't already, you'll need to come up with cash your down payment and closing costs. Lenders like to see 20 percent of the home's price as a down payment. If you can put down more than that, the lender may be willing to approve a larger loan. If you have less, you'll need to find loans that can accommodate you.
Various private and public agencies - including Fannie Mae, Freddie Mac, the Federal Housing Administration, and the Department of Veteran Affairs - provide low down payment mortgages through banks and mortgage companies. If you qualify, it's possible to pay as little as 3 percent up front. For more, check out their Web sites at Fanniemae.com or Freddiemac.com.
A warning: With a down payment under 20 percent, you will probably wind up having to pay for private mortgage insurance, a safety net protecting the bank in case you fail to make payments. PMI adds about 0.5 percent of the total loan amount to your mortgage payments for the year. So if you finance $200,000, your PMI will cost $1,000 annually.
Increasingly, though, lenders are giving qualified buyers the option of using "piggyback loans" to cover a portion of a home's down payment and avoid paying PMI. These second loans are usually in the form of a home equity loan or line of credit for 10 percent to 15 percent of the home's purchase price.
Once you've considered the down payment, make sure you've got enough to cover fees and closing costs. These may include the appraisal fee, loan fees, attorney's fees, inspection fees, and the cost of a title search. They can easily add up to more than $10,000 -- and often run to 5 percent of the mortgage amount.
If your available cash doesn't cover your needs, you have several options. First-time homebuyers can withdraw up to $10,000 without penalty from an Individual Retirement Account, if you have one, though you must pay taxes on the amount. You can also receive a cash gift of up to $12,000 a year (the limit for 2006) from each of your parents without triggering a gift tax.
Gift taxes are paid by the donor, not the recipient. (In fact, if your and your spouse's parents are both well-heeled, they can give you a total of $96,000 in one year -- $12,000 from each of the four parents to each of you.)
Check on whether your employer can help; some big companies will chip in on the down payment or help you get a low-interest loan from selected lenders. You can also tap a 401(k) or similar retirement plan for a loan from yourself.
Picking a team
Don't buy a home without professional help.
With all the tools and advice available today ranging from books and magazines to online advice like this lesson - it would theoretically be possible for you to buy your home almost completely without the aid of real estate professionals.
That's not necessarily recommended. The housing market, like politics, is basically local, and each state, city, and even neighborhood has a thicket of local laws or customs that you need to understand. For that, it helps to have a team of professionals to guide you.
You might want to start by finding an agent who can represent your interests in the search. This is not as simple as it sounds. Sure, 85 percent of sellers list their homes through an agent -- but those agents are working for the seller, not you. They're paid based on a percentage, usually 5 to 7 percent of the purchase price, so their interest will be in getting you to pay more.
What you need is what's known as an "exclusive buyer agent." Sometimes buyer agents are paid directly by you, on an hourly or contracted fee. Other times they split the commission that the seller's agent gets upon sale. A buyer's representative has the same access to homes for sale that a seller's agent does, but his or her allegiance is supposed to be only to you. I personally do not charge you any fees to represent you as a Buyers Agent.
To complicate matters, there are hybrid agencies called either single-agency or dual-agency brokers. In both cases, an individual agent in the firm may represent either sellers or buyers, sometimes both, in the same transaction. Potential conflicts of interest abound in this situation, so if you are seeking a buyer agent but no exclusive buyer agent is available, make sure to ask the agent about conflicts of interest.
Next start looking for a mortgage lender. Take your time, since you could be paying this loan for 30, even 40, years. Start on the Internet at places like LendingTree.com and E-loan.com. You may also want to check out the rates at CNNMoney.com, Bankrate, or HSH Associates. These sites carry nationwide listings of mortgage interest rates and other related information.
Don't limit your search to the Web, though. Once you have an idea of the best rates from national lenders, get on the phone to your community banks and any other institutions with which you may have a relationship. Ask if they can beat the national rates. Often, the local lender can offer a better deal simply because he or she knows the local market and wants to keep your business.
You might also consider using a mortgage broker, a middleman who keeps tabs on rates from a multitude of lenders. The mortgage broker isn't paid directly by you but gets paid by the bank. However, the fee - usually 1.5 to 3 percent of the loan amount - may get transferred to you in the closing costs. Most search engines have extensive listings of mortgage brokers. There's also a trade group, the National Association of Mortgage Brokers, which can put you in touch with a broker in your area.
Finding your Home.
Your first step here is to figure out what city or neighborhood you want to live in. (Remember the old saw about "location, location, location.")
For overall demographics and data on metropolitan areas, you can visit a city site like CNNMoney.com's annual Best Places to Live list. For more detailed neighborhood information, check out sites like Yahoo! Real Estate, Homepages.com or NeighborhoodScout for comprehensive school and demographic information on a number of communities. Look for signs of economic vitality: a mixture of young families and older couples, low unemployment and good incomes.
Pay special attention to districts with good schools (high teacher-student ratios and graduation rates are among the hallmarks), even if you don't have school-age children. When it comes time to sell, you'll find that a strong school system is a major advantage in helping your home retain or gain value.
Try also to get an idea about the real estate market in the area. For example, if homes are selling close to or even above the asking price, that shows the area is desirable. Try Homegain.com, which is free, or Dataquick.com, which is available only to paid subscribers, to check out recent home sales.
Your real estate agent may also be able to show you listings. Incidentally, if you have the flexibility, consider doing your house hunt in the off-season -- meaning, generally, the colder months of the year. You'll have less competition and sellers may be more willing to negotiate.
Next, take your search to real estate sites like Realtor.com or Yahoo Real Estate which let you search for property that fit your requirements.
Be wary of choosing search criteria that are too restrictive. For example, select a price range 10 percent above and 10 percent below your true range. Add a 10-mile cushion to the location you specify. If you see a house you are interested in, save it, print it, add it to your bookmark or favorites list, and take note of the MLS code; your agent will want that code to arrange to show you the home in person.
If you're a first-time buyer, pay special attention to condominiums and cooperatives, or co-ops. Condos generally sell for 15 percent to 20 percent less than the cost of comparable detached homes in the same neighborhood, so you get much more space for your money.
What's the difference between the two? In a condo, each owner has absolute ownership of his own unit, which may be an apartment or townhouse. Owners pay a monthly fee to maintain shared areas like the lobby, the pool, or the laundry room. The chief financial risk to a condo owner is that the common charges can rise, or, in the event of a major problem such as a roof repair or boiler replacement, the condo board can assess fees to cover expensive repairs.
It's a good idea, when considering a condo, to find out how much the common charge has changed over the last five years, and whether there have been major assessments during that time. Also ask what percentage of the residents actually own their units as opposed to just renting them (many condos include both). A complex with lots of renters has fewer owners who care about the upkeep, and it may be harder to get a loan on such a property.
A co-op is a rarer animal limited to major metropolitan areas, especially New York City. Essentially, the complex is run by a corporation where each owner is a shareholder. In other words, a co-op owner is a partner in a building, rather than an outright owner of his or her specific unit within that building.
The monthly maintenance fees are generally higher than those of a condo, but prices tend to be lower. Their chief downside is that the co-op board usually has to approve new owners and may discourage you from renting your unit if you move out without selling. As with a condo, check on the group's financial health, whether shareholders have been hit with special assessments recently, and whether the unit includes many renters.
When you actually start touring homes, bring a notebook and a digital or Polaroid camera to help you remember details. Your real estate agent should supply you with a description of each house and the lot it sits on, the property tax assessment, the asking price, and sometimes a diagram of the rooms. Your camera and notebook are there to record other details, ranging from the cost of heating to the view out the rear window.
One note: Don't automatically reject a house just because it doesn't measure up to your desires, either in features or price. You can always add a deck, for instance, or update a kitchen. Since the asking price is just a starting point for negotiation, you will be making offers and counteroffers as both parties seek an acceptable price.
Why you need a Home Inspection.
A house inspection can provide you with information about needed repairs or serious flaws, as well as peace of mind, even on brand new homes! Be sure to find out which inspections are required or recommended in the area.
You can have many different systems and structural aspects examined:
- Building Inspection
- Septic inspection
- Well inspection
- Termite inspection
- Engineer's structural report
- Soil analysis
- Roof inspection
- Radon gas test
- Asbestos inspection
- Pool/spa inspection
- Urea Formaldehyde Foam Insulation (UFFI) test
My advice to you is never buy a home without making that home subject to a professional home inspection. The inspection can be arranged when you make an offer on the house with a written stipulation that the offer is pending a satisfactory report. Generally, the building inspector will examine:
- Plumbing system
- Heating system
- Air conditioning system
- Electrical system
- Appliances
- Construction
- Insulation
Try to attend the inspections. This is an excellent opportunity to learn from an expert about construction, maintenance, and repairs that may be needed in the future.
Note: In many areas you can purchase (or negotiate for the seller to pay) a one-year home warranty to insure against major repair expenses on systems deemed to be satisfactory during inspection.
Closing the Deal.
Once you find the house you want, you need to move quickly to make your bid. If you're working with a buyer's broker, then get advice from him or her on an initial offer. If you're working with a seller's agent, devise the strategy yourself.
Try to line up data on at least three houses that have sold recently in the neighborhood. Calculate the difference between the original list price and the final price of the homes sold.
If the average difference is, say, 5 percent below the asking price, then you know you can make an offer 8 percent to 10 percent below, leaving yourself a little room to negotiate. If you really want the house, don't lowball. The seller may give up in disgust.
Another factor to consider in determining your bid is whether the trend in recent home sales is up or down over the past year. For instance, if houses a year ago were selling at list, and recent ones are going at 3 percent below, then you might want to sharpen your pencil for your opening bid to just 5 to 8 percent below list.
There's no foolproof system for negotiating a fair price. Occasionally it's best to deal directly with the seller yourself. More often it's better to work exclusively through intermediaries. In general, don't let the other side begin to believe you are negotiating in bad faith or being deceptive -- any deal you eventually reach has to involve trust on both sides.
Be creative about finding ways to satisfy the seller's needs. For instance, ask if the seller would throw in kitchen and laundry appliances if you meet his price -- or take them away in exchange for a lower price. Remember, too, that your leverage depends on the pace of the market. In a slow market, you've got muscle; in a hot market, you may have none at all.
Once you reach a mutually acceptable price, the seller's agent will draw up an offer to purchase that includes an estimated closing date (usually 45 to 60 days from acceptance of the offer).
Have your lawyer or buyers agent review this document to make sure the deal is contingent upon:
1. your obtaining a mortgage;
2. a home inspection that shows no significant defects (make sure you're clear on the definition of "significant");
3. a guarantee that you may conduct a walk-through inspection 24 hours before closing. This last clause allows you to check the home after the sellers have moved out so that you have time to negotiate payment for repairs, just in case the movers cause any damage, or that big living room sofa was hiding a hole in the floor.
You also need to make a good-faith deposit -- usually 1 percent to 10 percent of the purchase price -- that should be deposited into an escrow account. The seller will receive this money after the deal has closed. If the deal falls through, you will get the money back only if you or the home failed any of the contingency clauses.
Now call your mortgage broker or lender and move quickly to agree on terms, if you have not already done so. This is when you decide whether to go with the fixed rate or adjustable rate mortgage and whether to pay points (see "Picking a team"). Expect to pay $50 to $75 for a credit check at this point, and another $150, on average to $300 for an appraisal of the home. Most other fees will be due at the closing.
If you don't already have one, look into taking out a homeowner's insurance policy, too. Ask for recommendations from friends, your lawyer or your real estate agent. Most lenders require that you have homeowner's insurance in place before they'll approve your loan.
In addition to the appraisal that the mortgage lender will make of your home, you should hire your own home inspector. Again, ask for referrals, or check with the American Society of Home Inspectors, a trade group. An inspection costs about $300, on average, and up to $1,000 for a big job and takes two hours or more.
Ask to be present during the inspection, because you will learn a lot about your house, including its overall condition, construction materials, wiring, and heating. If the inspector turns up major problems, like a roof that needs to be replaced, then ask your lawyer or agent to discuss it with the seller. You will either want the seller to fix the problem before you move in, or deduct the cost of the repair from the final price. If the seller won't agree to either remedy you may decide to walk away from the deal, which you can do without penalty if you have that contingency written into the contract.
About two days before the actual closing, you will receive a final HUD Settlement Statement from your lender that lists all the charges you can expect to pay at closing.
Review it carefully. It will include things like the cost of title insurance that protects you and the lender from any claims someone may make regarding ownership of your property. The cost of title insurance varies greatly from state to state but usually comes in at less than 1 percent (in Iowa, as little as 0.1 percent plus a fixed fee) of the home's price.
The lender might also require you to establish an escrow account, which it can tap if you fall behind on your mortgage or property tax payments. Lenders can require deposits of up to two months' worth of payments.
After all this, the actual closing is often somewhat anticlimactic, though perhaps still nerve-racking. It's a ritual affair, with customs that differ by region. Your lawyer or real estate agent can brief you on the particulars.
Things Not to Do Before Purchasing a Home
Review the article titled, "Don’t Buy a Car," and apply it to any major purchase that would create debt of any kind. This includes furniture, appliances, electronic equipment, jewelry, vacations, expensive weddings…
…and automobiles, of course.
When a lender reviews your loan package for approval, one of the things they are concerned about is the source of funds for your down payment and closing costs. Most likely, you will be asked to provide statements for the last two or three months on any of your liquid assets. This includes checking accounts, savings accounts, money market funds, certificates of deposit, stock statements, mutual funds, and even your company 401K and retirement accounts.
If you have been moving money between accounts during that time, there may be large deposits and withdrawals in some of them.
The mortgage underwriter (the person who actually approves your loan) will probably require a complete paper trail of all the withdrawals and deposits. You may be required to produce cancelled checks, deposit receipts, and other seemingly inconsequential data, which could get quite tedious.
Perhaps you become exasperated at your lender, but they are only doing their job correctly. To ensure quality control and eliminate potential fraud, it is a requirement on most loans to completely document the source of all funds. Moving your money around, even if you are consolidating your funds to make it "easier," could make it more difficult for the lender to properly document.
So leave your money where it is until you talk to a loan officer.
Oh…don’t change banks, either.
For most people, changing employers will not really affect your ability to qualify for a mortgage loan, especially if you are going to be earning more money. For some homebuyers, however, the effects of changing jobs can be disastrous to your loan application.
How Changing Jobs Affects Buying a Home
For most people, changing employers will not really affect your ability to qualify for a mortgage loan. For some homebuyers, however, the effects of changing jobs can be disastrous to your loan application.
If you are a salaried employee who does not earn additional income from commissions, bonuses, or over-time, switching employers should not create a problem. Just make sure to remain in the same line of work. Hopefully, you will be earning a higher salary, which will help you better qualify for a mortgage.
If your income is based on hourly wages and you work a straight forty hours a week without over-time, changing jobs should not create any problems.
If a substantial portion of your income is derived from commissions, you should not change jobs before buying a home. This has to do with how mortgage lenders calculate your income. They average your commissions over the last two years.
Changing employers creates an uncertainty about your future earnings from commissions. There is no track record from which to produce an average. Even if you are selling the same type of product with essentially the same commission structure, the underwriter cannot be certain that past earnings will accurately reflect future earnings.
Changing jobs would negatively impact your ability to buy a home.
If a substantial portion of your income on the new job will come from bonuses, you may want to consider delaying an employment change. Mortgage lenders will rarely consider future bonuses as income unless you have been on the same job for two years and have a track record of receiving those bonuses. Then they will average your bonuses over the last two years in calculating your income.
Changing employers means that you do not have the two-year track record necessary to count bonuses as income.
If you earn an hourly income but rarely work forty hours a week, you should not change jobs. There would be no way to tell how many hours you will work each week on the new job, so no way to accurately calculate your income. If you remain on the old job, the lender can just average your earnings.
Since all employers award overtime hours differently, your overtime income cannot be determined if you change jobs. If you stay on your present job, your lender will give you credit for overtime income. They will determine your overtime earnings over the last two years, then calculate a monthly average.
If you are considering a change to self-employment before buying a new home, don’t do it. Buy the home first.
Lenders like to see a two-year track record of self-employment income when approving a loan. Plus, self-employed individuals tend to include a lot of expenses on the Schedule C of their tax returns, especially in the early years of self-employment. While this minimizes your tax obligation to the IRS, it also minimizes your income to qualify for a home loan.
If you are considering changing your business from a sole proprietorship to a partnership or corporation, you should also delay that until you purchase your new home.
