What to Know Before Buying Your First Home
Buying your first home is a big step—one part dreaming and several parts planning and saving. It’s exciting and daunting all at once. Homeownership creates equity, gives you mortgage interest deductions, and helps build wealth. We want to see you pursue your dreams, so let’s walk through what to know before buying your first home.
Here are five things to know before buying your first home.
#1: Before purchasing a home, know that breaking even on the investment takes time.
It often takes homeowners about five years to break even. Here’s why. The up-front costs of purchasing your first home (down payment, realtor fees, mortgage closing fees, moving expenses, etc.) are one factor. Another factor is the rate at which you build equity. For the first several years, most of your monthly payment goes toward interest with only a minimal amount toward the mortgage principal.
If you imagine being in your home for less than five years, you may want to consider renting. Despite what you’ve heard, renting doesn’t mean throwing money away! It’s actually a wise choice for many people.
#2: Save cash for your down payment.
Saving 20% for a down payment is the most common target, but it isn’t always necessary. Here’s what to know before purchasing a home with less than 20% down.
If your down payment is less than 20%, you may have to pay private mortgage insurance (PMI). PMI is an added premium on top of your monthly payment, which protects your lender if you become delinquent on your mortgage. PMI isn’t good or bad—it’s simply a financial factor to know before buying your first home.
Keep in mind that PMI doesn’t last forever.
Let’s say you have a $300,000 mortgage, and you put $40,000 down, which is less than 20%. You would need to pay PMI until your principal was below $240,000, at which point the equity in your home reaches 20% of the property value. (Another way to put it: PMI can disappear after your mortgage value is less than 80% of the property value.)
For some new home buyers, putting down 20% to avoid PMI makes sense. For others, it could be advantageous to put down less than 20%, even if that means paying PMI—like if you’re able to lock in very low interest rates.
Talking with your mortgage lender or financial advisor can help you determine whether it’s in your best interests to pay PMI or wait until you have a 20% downpayment.
#3: Save a lot of cash for other things, too.
Knowing that you should save for all the little things before purchasing your first home will make your life easier later. Many people save cash for their down payment, inspections, and moving—but don’t save enough to afford necessities like a water hose or vacuum cleaner.
Home maintenance will cost more than you think. You should know, before buying your first home, how much money and time you are willing to spend on home maintenance. With homes, it’s always something, from new light bulbs to new windows. You don’t have to be a DIY enthusiast, but you do need to be realistic about what you can handle, and save accordingly.
Make sure to include contributions to an emergency fund, if you don’t already have one.
#4: Create a purchase budget to determine the target price range for a house
This next exercise is an eye-opener for many new homebuyers—and it’s critical to do before purchasing a home. You want to avoid being house poor!
First, estimate your monthly mortgage payment.
Use an online mortgage calculator to estimate your monthly mortgage payment based on the home purchase price, down payment information, and current interest rates. If you were hoping to purchase a $400,000 home, what does the monthly payment look like? Enter different purchase prices in the calculator to see what payments look like.
Next, pretend you’re already a homeowner and make a budget accordingly.
Start a spreadsheet using your current monthly budget, and add to it the things you’d pay for as a homeowner, including the mortgage amount you just calculated.
- Mortgage amount
- Water bill
- Electric bill
- Home insurance
- Home maintenance
After compiling the budget, ask yourself:
- Does the total budget fit within your after-tax income?
- Would you still have the flexibility to do things that matter to you, like travel or contribute to financial goals?
- What numbers do you need to alter to make this budget work for you?
After this exercise, if you’re questioning whether you can afford to buy a home right now, that’s very normal. Depending on your personal situation, renting can be the wiser choice. It’s worth heartfelt introspection to decide what’s best for your situation.
#5: Work with a reputable lender to get pre-approved for a loan.
Having a pre-approval makes it easier to make an offer quickly.
Lenders will often approve homebuyers for a larger amount than they anticipate. But just because the bank says you can doesn’t mean you should. Stick to the purchase price you identified in the budget exercise—no matter what you’re approved for!
Sticking to your budget is also important because your monthly payments will change over time. The principal and interest portion of your monthly payment remains the same for the life of the loan, but your monthly payment amount will change. That’s because the other two parts of a monthly payment (taxes and insurance) fluctuate. For example, if your home value increases substantially, your property taxes will, too.
#6: Understand the fees before you choose a lender.
Fees can include appraisals, title fees, application fees, origination fees, and more. These lender fees vary widely. You may find that the quoted interest rates are similar, but the fees aren’t. When evaluating lenders, ask about fees and closing costs associated with the transaction, so you can have a complete cost comparison. You don’t want any fees to surprise you at closing!
One more thing to know before purchasing your first house…
Try to enjoy the process! Buying your first home only happens once. It’s a learning process, for sure, but it’s also a time to imagine your future.
If you’ve been wondering what you need to know before buying a house, we hope this article helped! But, if you’re looking for more nuanced advice about what you can afford or when the right time is for you to buy a home, the team at Commas is always here to provide support. If you’re interested in getting started using investment tools to save for a downpayment or harness the power of budgeting, reach out to our team today!