Nine Key Steps to Buying a Home

• Before you buy a home, it’s important to get your finances in order.
• To figure out the best home buying options, work with a lender.
• Stick to your budget when buying a home. Anything over budget can put you in debt, and you risk becoming house poor.

Homeownership is an integral part of the ideal “American Dream.” Unfortunately, for something that so many people aspire to do, most people are woefully underprepared to buy their first home. 

Here are nine key steps you can follow to make sure you’re ready to buy a home.

1. Understand the Costs of Homeownership

Owning a house is not cheap. While, in many cases, the monthly cost of owning a house (i.e., your mortgage) is less than rent, there are other hidden costs that any aspiring homeowner should know about. Owning a home means paying for:

Maintenance

There’s no landlord to take care of broken appliances or replace the roof. Whether you do it yourself or call a subcontractor, all of it is your financial responsibility.

Yard care

You are responsible for keeping your lawn well-manicured. A nice lawn may potentially increase the value of your home.

Home insurance and property taxes

The principal mortgage amount will stay the same (unless you refinance), but insurance costs and property taxes increase yearly.

Utilities

You’re probably familiar with utilities, but now they’re all in your name.

Upgrades

Depending on the age of your home, you may need to update the insulation, electrical, roof, or plumbing.
 

At best, any estimates about what this will cost will be a guess, but it is important to at least guess something and make sure you can afford it before assuming that you can afford a home since it is “cheaper than renting.”

2. Credit Score Matters

Now it’s time to prepare your personal finances. The first thing to do is to check your credit report and credit score.

Recommended Read: Tips on How To Improve Your Credit Score

Depending on your loan product, you’ll need a minimum credit score of 580 or 620 to qualify. The higher the score, the better your loan option will be, but if you are under this range, it is critical to start improving your credit score immediately since this can take anywhere from a couple of months to a few years.
 

Start by looking at your debt-to-income ratio, pay down some bills, or make sure all of your bills are paid on time.

Pro Tip: If you need help fixing your credit score, there are many resources on CapWay’s website and mobile app. 

3. Save For a Down Payment (and Closing Costs)

Buying a house requires a rather large upfront investment ranging from 3.5% to 20% as a down payment and around 2-5% in closing costs. So, for every $100,000 of the purchase price, you can expect to bring between $5,500 and $25,000 to the closing table.

That is not an insignificant amount of money, so start saving! Keep in mind that the more you can save and put towards a down payment, the lower your monthly payment will be.

4. Watch Your Debt-to-Income Ratio

To qualify for a home loan, it is important to maintain a debt-to-income (DTI) ratio under 30%. DTI is calculated by dividing the monthly minimum payment on your debt by your monthly gross income. So, if you make $200 payments on your debt every month and pay $1,000 every month, you’d have a DTI of 20% (200 / 1,000 = .2 or 20%).

That means you can’t slip into debt while saving for your down payment, and if you have a high DTI, you’ll need to pay that down before considering applying for a home loan. 
 

5. Understand Different Loan Products 

It might be tempting to skip this step and jump right to getting pre-approved but do some research first. Sadly, mortgage brokers are not all created equal. Some only know how to use the most common loan types, conventional and FHA (Federal Housing Administration) loans, so they might steer you away from the loan and programs that will benefit you most.

That is why you need to understand the basics of various loans yourself so you can ask your mortgage broker intelligent questions. Beyond FHA and regular conventional loans, there are low-down conventional options, VA loans, and the United States Department of Agriculture (USDA) loans, all with special benefits if you qualify. There may be even more options, depending on where you live. 

6. Get Pre-Approved

This is where you talk to a mortgage broker and get a letter saying that you are qualified to buy a house.

Pro Tip: Mortgage broker vs. mortgage lender: A lender is a financial institution (i.e., bank, credit union) that provides you with a loan. A mortgage broker does not lend you money rather, they find the best lender for you.

You can get multiple hard credit inquiries while getting pre-qualified if it is in a short enough period of time without taking a substantial hit to your credit score. Be sure to shop around and find the right broker and terms for you.

7. Shop for Houses in Your Price Range

Now that you’re pre-approved, it is important to remember that just because you are pre-approved for a certain amount doesn’t mean that you have to buy a house at that maximum price. In fact, buying at your maximum price is usually a bad idea.

One rule of thumb suggests that your mortgage should be less than 28% of your gross income. Pre-approvals sometimes approve you for up to 50% of your after-tax income in monthly payments, which is significantly higher than recommended.

A smaller payment is almost always a better financial decision than maxing out your pre-approval limit.
 

8. Shop for Insurance

Insurance is one of the most significant costs in your monthly PITI (principal, interest, taxes, and insurance) payment, and too many people leave it until the last minute. After you’ve found a home, start the process of shopping for insurance immediately.

Some aggregator sites will find quotes for you, and local brokers can also help you. More quotes mean you’re more likely to get the best rate.
 

Set a reminder to shop them around every year. Insurance companies do not reward people for loyalty. Instead, they consistently raise rates on passive customers while aggressively lowering quotes to attract new customers.

9. Don’t Skip Your Due Diligence

Buying a home is one of the biggest financial decisions you’ll make, so don’t make it with your eyes closed. Even if you feel like you have to waive the inspection contingency, you can still have an inspection. You might lose some earnest money and pay for the inspector, but if there is a major problem with the house, that will save you thousands more.

Make sure you go through the proper appraisal, surveying, and insuring process. Don’t forget to read the seller’s disclosures and consider title insurance—it is cheap and can protect you from a nasty lawsuit. 

You’re ready to close on the house with all the due diligence done by following these steps!