- Tired of paying rent / rents are rising.
- Home prices are rising and if they don’t buy now they might be priced out of the market.
- Just got married.
- Just got a great new job.
- All my friends are buying a place and it seems like a good idea.
All of these reasons are reasonable, but none of them hit on the key factors that a first time home buyer should consider when they are thinking about buying a home. They can push you in the right direction but they don’t ensure an intelligent purchase.
Buying a home is one of the best ideas you can make. It is a great long term investment, your payments are tax advantaged, with each payment you are gaining equity and you get to live in a place you can make your own. It’s a win, win, win! However, the keys to making it a good investment have much to do with your stability and your budget.
I mentioned in the previous paragraph that owning real estate was a great long term investment. Unless the market is appreciating very quickly you will be doing very well to break even if you need to sell within two years. Real estate is cyclical so not everyone gets lucky and makes the purchase right before prices take off. In many markets prices are just now getting back up to 2007 levels after a big decline. If you bought in 2006 and needed to sell in 2010 you lost money. So the first question to ask yourself when you are considering a home is: “How long will I be living in this house?” If you answer is less than five years it might be better to rent. A key to making real estate an investment, not just a place to live is the ability to wait out market cycles.
Besides geographic stability the other main thing to consider is affordability. The first step to figure out what is affordable is to take an in depth look at your finances. Examine your long term financial goals such as savings, retirement, kids college, vacations, etc., and figure out how to make it all fit within your budget. When you know your comfort level regarding monthly payment call a mortgage lender to get pre-approved. Most likely you will be approved for more than what you are comfortable paying. If you over-extend yourself with your new house you will feel burdened instead of smart. Pick a payment that is comfortable for you and that allows you to keep your savings and lifestyle goals in tact.
Some practical considerations regarding affordability:
- Plan ahead for future changes in income. Do you plan to become a one income family after you start a family? Don’t lock yourself into a payment that requires two incomes.
- Have you saved enough of a down payment? Low down payment options are available but they require an additional payment called mortgage insurance. If you have less than 20% down it might be a good long term decision to delay the purchase and save every penny you can until you have what you need.
- As interest rates rise your payment dollar buys you less house. If you are almost ready to buy and your qualification is right on the edge it might be good to lock in a home before interest rates rise. To read more about how much this can affect your payment see my article The Impact of Interest Rates on Home Affordability.
- Credit scores have a huge impact on your ability to buy a house. If you have a credit score of less than 760 your qualification or the interest rate you are offered will be negatively affected. To check your credit score for free (with no strings attached) go to www.AnnualCreditReport.com. If you find out that your credit score will negatively impact you, figure out why your have a low score and start fixing your FICO score.