Unless you’re fabulously wealthy, it’s unlikely that you’ll be able to simply decide, “I think I’ll buy a house now” and breeze through the process in a few weeks.
You’re probably wondering about loan preapproval, house hunting and real estate agents, but the process of preparing to buy a home actually starts months or even years before you start looking at mortgage rates.
You need to be financially ready. This means looking at your current financial situation and seeing how it lines up with what mortgage lenders look for in a borrower, figuring out what you can afford and saving for a down payment and closing costs.
What Lenders Are Looking For
Here are some of the basic requirements you’ll likely need to fulfill to be approved for a mortgage. Keep in mind, these are general guidelines and may vary depending on your lender and what type of loan you get:
- Minimum credit score of 620 for conventional loans; 580 for FHA loans
- Good credit history
- Proof of reliable source of income
- Debt-to-income ratio below 50%
If you meet only the minimum requirements, you may want to work on improving your credit score before applying for a mortgage, as this can get you access to better rates.
Determining How Much You Can Afford
You’ll have to get preapproved for a mortgage to know exactly how much you’ll be able to spend on a home, but figuring out what your monthly budget might be if you take on a mortgage will help you decide if you can realistically afford a home.
There are many home-affordability calculators that estimate how much home you can afford and what your monthly payments might be. You may find that you’re able to get a mortgage with a lower monthly payment than what you’re currently paying towards rent. However, keep in mind that homeownership comes with all kinds of new costs, so factor in things like taxes, insurance and maintenance when looking at what your overall costs would be.
Saving For A Down Payment
Saving for your down payment can take a while, especially if you plan to put 20% down.
Luckily, there are plenty of options for those who can’t pull together that kind of cash. FHA loans require only 3.5% down, and there are conventional-loan options that allow you to go as low as 3% down – with the caveat that mortgage insurance will be included. If you qualify for a VA or USDA loan, you could get a home with 0% down.
The reason 20% is the oft-quoted number is because that’s the minimum you can put down while avoiding mortgage insurance. On top of that, the larger down payment you make, the lower your monthly payments will be.
When you’re figuring out how much you need to save, don’t forget to factor in closing costs. Your individual closing costs will vary depending on your situation, but usually end up being around 2% – 5% of the home’s value.
You’ll need to provide two months of bank statements to prove you’ve had your down payment funds in an account for at least 60 days for them to be eligible for you to use. Lenders require this documentation to ensure that you aren’t taking out another loan to cover your down payment.
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