Buyer Loan Guidance

BUYER LOAN GUIDANCE

Before buying a house and beginning the search for a new home you need to consider how much house you can afford. This requires knowing your budget, a word that many of us dislike as it requires some work to create. Understanding if you can afford that new house can depend on current debts, income, and your lifestyle. No one wants to be ‘house poor,’ with a beautiful house but no ability to handle unexpected expenses or afford the day-to-day basics.

Determine Your Income 

There is a difference between your gross and net income. Gross is what your employer says they will pay you, net income is what you are actually going to take home after taxes. A good start is to calculate your monthly income, taking into account salary, any bonuses and any other potential income sources, such as child support, alimony etc.   

Calculate Your Debts

What do you currently owe? This may include car payments, student loans, and any credit card debt you are paying off over time. Lenders use a ratio called Debt-to-Income Ratio, and typically they want you to have a ratio of 36% or below including the home loan.

Your Down Payment

People often believe they need 20% as a down payment, but this is no longer true, there are many loan products that require anywhere from 0-20% down. Veteran loans for example can require no down payment at all, then there are FHA, USDA, and many first-time buyer programs that require less and some that even give a grant towards the down payment. These grants can be income driven aimed to help make housing affordable to lower income families. The size of your down payment will impact your monthly payment: a larger down payment reduces the monthly mortgage amount.

Understand Your Mortgage Options

Loan types - you can have a 30-year or a 15-year mortgage, the shorter the mortgage often the lower the rate, as the principal gets paid off quicker and the risk is seen as lower. However, the payment will be higher as more principal gets paid off each month. Then you can consider an adjustable rate mortgage, common in many countries where the rate adjusts at set points during the length of the loan, often with a cap on the highest level of interest. Adjustable rate mortgages can run for 5, 7 or 10 year terms, with the loan being a 30 year repayment term. The alternative is a fixed rate mortgage set for the length of the 15 or 30 year repayment term. Interest rates are affected and set in relation to the bond markets. Then your credit score will also affect the rate you get offered. The higher score you have the lower rate you will be offered as you are considered a lower risk. Before you start looking for a house it is vital to get pre-approved. This allows you to know your purchase limits and what you can afford. If buying a town home with a monthly/yearly Homeowners Association fee this will also affect your monthly payment and affect your mortgage limit.

Ongoing Homeownership Costs   

These are the costs you will pay over time as you own your home, such as property taxes and home insurance. Property taxes are calculated by the county, city and school district in which the home is situated. These can vary widely, so be aware this will affect how much house you can afford to buy. Homeowner insurance rates have been increasing over the last few years as insurers try to recoup the costs of claims from disasters and spread these costs a cross a wider group of insured homes. Some loans such as FHA loans require Private Mortgage Insurance (PMI) and this becomes a part of the monthly payment if you have a smaller down payment. Then there is the cost of home maintenance, usually a rule of thumb is to use 1-3% of the value of the home for maintenance and repairs. This may not be paid out every year, but replacing a roof or a heating system can be expensive even if only done every 20 years or so. When there is a Homeowners Association the monthly fee often takes into account some of the maintenance and repairs, but the lower the fee, often the less they cover. And of course, there is the cost of utilities such as water and sewage fees, heating costs, internet etc.

Using Online Calculators

NerdWallet (https://www.nerdwallet.com) provides an online calculator that provides PMI costs as well. Many banks also provide mortgage calculators and a simple search will give you plenty of options to select from. Much of what we have discussed you will need to calculate, (income, debts, down payment, loan term etc.)

Plan for Your Financial Comfort Zone

Lenders will often give you a limit that you can borrow, but this may not be what makes you feel comfortable or possible depending on your lifestyle. Consider if you want to eat out, plan a vacation etc. You do not need to borrow the maximum. Consider your personal goals, saving for retirement, travel plans, and setting up an Emergency Fund. There are always unexpected expenses, the need for a new car or a growing family. Many financial advisors suggest aiming to keep a cushion of 3-6 months of expenses as an Emergency Fund to protect against a loss of a job, or some other unexpected expense that might arise.  

In conclusion, what you can afford is not just about what a lender says you can borrow, but what makes you feel comfortable financially as well.

If you have any questions about the home buying process, or questions about properties in Flagstaff and northern Arizona, come by our office or call us!