Why First Time Home Buyers Believe They Can’t Afford a House
How to Overcome the Six Most Common Problems Home Buyers Have
It may appear to first time home buyers that affording a house is filled with insurmountable obstacles. The fear of committing to a monthly home payment or rising interest rates in a seller’s market could discourage the best of us.
But for many home buyers who think that they can’t afford to own a home, I have great news: You most likely can (even in a place you’ve always wanted to live).
Working with first time home buyers in Phoenix for the last seventeen years, I’ve discovered at least six common problems that concern buyers the most. As real as these problems appear, they don’t have to stand in the way of owning your home.
Problem One: Don’t Have the Down Payment Saved
Many Americans just don’t have the 20 percent saved up for the down payment. Whether you’re living from paycheck to paycheck, or have student loans to pay off, 20 percent is not the minimum down payment for many mortgage existing programs.
According to the National Association of Realtors, as many as 82 percent of Americans buy their first home with under 20 percent down payment. Many mortgages, such as a FHA require a minimum of 3.5 percent down. And if you’re a Veteran, you have the option of using a ZERO percent down VA loan to buy a house.
So, what are the disadvantages for first time home buyers when they only have the minimum down payment? It means a larger mortgage balance to finance, which leads to a higher monthly payment. Putting less than 20 percent down also causes the lender to require you to pay for private mortgage insurance.
The difference between putting down 20 and 3 percent are huge when buying a $250,000 home. That’s a difference between $50,000 and $7,500. Much more plausible, right?
What if you’re still a little short with that down payment? Most lenders will allow a “gift” from a direct family member such as a wife, mom, dad and even grandparents. Just be aware that as of 2017, the maximum limit for gifting someone is $14,000 per person. A gift tax could be assessed on those who gift you over that amount.
There’s a way around this. If you have multiple family members gift you, this could add up to quite a bit of down payment money. Remember that if you’re using Fannie Mae or Freddie Mac backed mortgage, the entire down payment can come from a gift if you put down 20 percent. However if you put down less than 20 percent, you’ll be required to personally contribute to the down payment as well.
Another popular way to obtain financing according to recent real estate studies is to go into the purchase with a co-signer. Whoever co-signs the mortgage must have ample income, solid assets and a good credit score to help you. However, if you miss a mortgage payment or walk away from the home, the servicer will come after the co-signer and that could completely damage their credit.
Not everyone is fortunate enough to have parents or others who can help them with the down payment, so here are some other ways to find that extra down payment money.
Down Payment Assistance Programs
Depending on your income, credit score, whether you’re buying the home as owner-occupied and other conditions, you may be eligible for down payment assistance. Down payment assistance are programs offered by Arizona, county or city governments to help would-be home buyers qualify for a mortgage by offering grants that pay a large portion of their down payment.
If you’re able to save money before buying your first home, please consider putting off buying that new $50,000 truck. Getting married? Skip the big wedding. Many Americans spend anywhere from $20,000 to $100,000 on that special day. Ask for cash gifts, not plateware.
Find creative ways to make that down payment. Do some side hustles, stop eating out, reduce your overall spending. The sacrifices you make today will be worth the joy of owning your own home tomorrow.
Borrow Against the 401K
This is of course the last resort when it comes to finding a down payment solution. Many 401(k) early withdrawals are not allowed or are penalized by the IRS in the form of large tax assessments. Beware that some 401(k) retirement plans may require immediate repayment if you leave your employer.
Problem Two: Poor Credit
One of the most common problems that prevent first time home buyers from buying a house is bad credit. Bad credit can sometimes not be helped because of a medical catastrophe or lost job. Having bad credit doesn’t make you a bad person, but it does limit your choices to mortgages with high interest rates or not getting a loan at all.
The best thing about credit scores is that you have the ability to improve them at any time. We all pretty much start life with no credit. Along the way, we get new jobs, open bank accounts and buy more and more things on credit. This is your opportunity to show the bank that you’re fiscally responsible and can pay your bills on time. Talking to a lender up front helps you create a game plan for buying a home.
Loan officers will work with you to improve your credit score – increasing your chances in buying that home you’ve dreamed of. Honest lenders will tell you up front whether you qualify today for a loan or need to wait for a few months, giving you the time to address any credit issues you have.
Here are some things any home buyer should know while they are house shopping:
Do not buy a car yet. Buying a car hurts you in so many ways. An auto mortgage limits how much home you can afford by increasing your debt to income level. Buying a car reduces your cash on hand for a down payment on a house. So what I’m trying to say is stay away from applying for new credit altogether. The “hard pull” inquiries from merchants reduce your credit scores and remain on your credit report for up to two years.
Don’t incur new debt. As I previously mentioned, hold off on applying for new credit cards, taking out private loans or switching insurance companies until AFTER you buy your home.
Always know your credit score. I can’t tell you how many buyers make the mistake of not checking their credit score before going out house shopping. Knowing your credit score is absolutely necessary in looking for a home. Your lender will need to prequalify you for a maximum purchase amount. Your credit score not only qualifies you for how much you can borrow, it will affect the interest rate too. Buyers who are “less risky” to the bank will get rewarded with lower interest rates. Low interest rates equate to larger homes or a smaller monthly mortgage payment.
Check your own credit using annualcreditreport.com. American consumers are allowed a free credit report from Equifax, Transunion and Experian once a year. Review the results carefully by checking for errors, fraud and other adversities that could cause your score to be lower than it should. If you do discover a mistake, you must provide notice to the credit bureau immediately. Whenever you check your own credit score, it does not count against you as a hard inquiry.
For your credit score, I recommend having a lender provide this to you. Working with a mortgage broker in this case is more advantageous because they will pull your credit score once and distribute it to a small number of lenders who will compete for your business.
Your FICO score is a key factor for qualifying for different loan products. There are tons of websites out there like Credit Karma that provide you with a credit score, but it’s best to allow your lender to provide you with a true FICO score that will be used in determining your ability to qualify for a home loan.
On a scale between 300 and 850, the average Arizona FICO score in 2019 was 699. Having a FICO score below 550 is considered poor credit. To get a FHA loan, usually the lender requires at least a 620 and 720 for conventional loans with mortgage insurance.
Problem Three: Wanting to Buy a Home Outside Your Price Range
Maybe you’re shopping for a mansion when all you need a three bedroom starter. When your eyes are bigger than your budget you’ll need to step back and visit reality. By now, your loan officer has spoken to you about what you can afford, what your monthly payment should be and more.
Home prices around the Phoenix Valley are influenced by a number of complex factors. Three bedroom homes for sale in North Peoria can be much more expensive than three bedroom homes in Buckeye because of their locations. Highly desirable neighborhoods close to great schools and entertainment districts can be a reach many home buyers with limited budgets.
Think of a starter home for what it is – a starter home. Your home in many ways is one of the largest investments of your life. In a market where homes are quickly increasing in value, it would be wise to consider buying a home within your financial comfort zone. Yes, the neighborhood could be a little noisy and yes, the home you buy may need some work, but you must remember that one day when you have a higher paying job you can sell it and step up into a nicer home.
What’s important is that you’re comfortable with your mortgage payment. Just because the lender approves you for $330,000 doesn’t mean you need to buy a $330K home.
Finally, you should ask yourself if you need to live next to “great schools” if you have no children or whether a home with a pool will work if you don’t swim.
Problem Four: The Fear of Having Such a Big Loan in Your Name
Traditionally, the one-size-fits-all mortgage was the 30-year fixed loan. Our parents actually lived in the home 30 years, paid off the loan, retired and lived happily ever after.
Home buyers today don’t share the same kind of lifestyle as our parents and grandparents once did. The world has become more mobile and disposable. According to the National Association of Realtors, the average homeowner remained in their homes between six to seven years. As a result, lenders have designed a wide variety of loan products that meet their needs.
After our housing crash from 2008-2012, buyers have learned many lessons such as how low-interest adjusted mortgages can be dangerous if you don’t use them correctly. Five-year adjustable loans aren’t for everybody. But for many, with the right economic market conditions they make a lot of sense if you plan to move or refinance within 5 years.
15-year fixed loans have become extremely popular over the last 10 years for those who don’t move so often, but can’t wait thirty years to pay off the mortgage. Yes, the payment is amortized over fifteen years – making for a higher monthly payment, but interest rates and PMI are usually lower too.
Speaking to an experienced mortgage lender about your goals is the most important step you can take in buying a home. The lender will listen to you and suggest the best product that will meet your needs.
Problem Five: Not Knowing Where to Start
If going to open-houses every weekend and eating homemade cookies is where you start – you’re wasting valuable time. Sure. The agent may be very entertaining and the cookies are tasty, but this is no way to start your education. Only 9 percent of home buyers in 2014 found and purchased a home from an open house according to the National Association of Realtors. However 44% were inclined to consider open houses as part of their search.
The number one way to start is to hire a knowledgeable Realtor. Working with an agent from the beginning is the quickest way to receive the best education about the process. Best of all, buyer’s agents work on a commission paid to them by the listing Broker. It is not necessary for the home buyer to pay any kind of upfront fee to their agent whatsoever.
Don’t think you’ll get a good deal on your house if the Seller has to pay a real estate commission to your agent? Think again. The commission has already been baked into the sales price in a separate listing agreement between the Seller and his agent. Often the commission equates to six percent of the sales price, but is of course negotiable between the seller and her broker.
Does your agent get paid if you don’t buy a home? Nope. As previously stated, your buying agent will only get paid if the home actually sells. This is not a license to squeeze your agent for information and use another agent to complete the deal. Find an agent you feel comfortable with and can genuinely work with to buy a house.
Problem Six: You Just Made an Offer and You’re Freaking Out
It’s easy to become nervous when buying a house. There’s a lot at stake. But if you have an agent and lender you feel confident about, you will undoubtedly have a pleasant experience. Isn’t that why you hired an agent in the first place? When you hire an experienced agent and local expert you negotiate the contract through them.
In Arizona, the purchase contract has many legal protections and contingencies throughout. Here are the most important contingencies buyers have at their disposal
You have an opportunity to have the home professionally inspected. An inspection can be performed by a licensed home inspection company or by your favorite contractor. In fact any type of inspection you need completed can be done within an agreed time range (usually 10 days). If it turns out that the problems are too much for you to fix, you have the choice of renegotiating the deal or walking away.
Your offer is based on obtaining financing. If your lender does not approve your mortgage financing before the close of escrow, you’re not obligated to buy the house and can cancel with a full return of your earnest money deposit. In addition, if the home isn’t appraised for at least the sales price, the buyer can renegotiate or walk away from the deal.
Other contingencies and conditions can be written into the contract by either agent making buying a home more flexible and safe for the buyer.
Keep in mind, not every escrow ends with a sale. Many unforeseen things can go wrong with a deal. Yet another reason to hire an experienced, knowledgeable Realtor. First time home buyers and even veteran home buyers or investors can get cold feet. Finding the right home from the start is the best way to warm those feet up. Everyone gets anxious and emotional before a purchase. If you do your research, work with knowledgeable professionals and have a solid strategy, you’ll become a proud homeowner before you know it.
Additional First Time Home Buyer Resources
- 7 Mortgage Fears That Hold Home Buyers Back via Rachel Hartman
- Millennial First-Time Homebuyers Face Fears and Obstacles via Tamara E. Holmes
- What Is a FICO Score? via Ann Brenoff
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Have you been thinking about BUYING or SELLING a home in the Phoenix AZ Area? I’d love to have an opportunity to sit down and speak with you about how I can provide you with everything you need to make a stress-free transition into your new home.
Let’s get started today! I can’t wait to meet you.
About the Author: The above article, Six Reasons First Time Home Buyers Think They Can’t Afford a House was written by Troy J. Elston, a licensed Realtor at West USA Realty, the premiere real estate brokerage based in Peoria Arizona. With years of experience in the real estate industry, Troy produces stunning results for home buyers and sellers. If you’re thinking of BUYING or SELLING a home in the Phoenix Area, Troy would love to share his knowledge and expertise with you.