As I’ve shared in past posts, my husband and I accomplished a big SMART Goal for 2020 by purchasing a home. This was a goal we had carefully planned for over the past two years and are thrilled to put a check mark next to buying a home early next month. It was a long road, it started with saving diligently for years, continued with pouring over listings and scheduling showings with our agents, continued with putting in an offer and anxiously waiting to hear back from the sellers to now waiting (impatiently) until our closing date next month.
As we went through the various steps of purchasing a home, I made sure to take careful notes so that I could eventually turn them into a series of blog posts on the home purchase process. If you haven’t already learned this about me, I like, checklists, workflows and simplifying information to share with others. On that note, here are some of the helpful things I picked up during our home search that I’m excited to share with those of you deciding if a home purchase is in your near future.
Question to Ask Yourself
In a recent post, I talked about the importance of establishing a real estate “dream team” and first talking with a mortgage broker before anything else but I didn’t dive into my reasoning behind making that step first. The reason I’d advocate for meeting with a mortgage broker first was because our first conversation with our broker was so helpful. He helped us think through some important questions that guided our home search and took our SMART Goal of buying a home one step further. Sharing below the questions he asked us during our introduction call:
- Time frame for home purchase?
- Breakout of income (base and average of bonus and commissions)
- Purchase price range and estimates of associated property taxes and HOAs
- Target all-in mortgage payments (including interest, PMI and taxes)
- Estimated down payment amount (% or dollar amount)
We had the majority of these answers ready to go because of our SMART goal exercise but there were elements to buying a home that we hadn’t considered like property taxes in the communities we were looking at and evaluating our cash to understand our down payment options. If you find yourself struggling to answer some of the questions above, I’d recommend checking out this cash flow analysis tool to back into housing expenses that work with your family’s budget.
Rules of Thumb
After we went over our answers to the questions we covered during the call, our mortgage broker shared with us some rules of thumb to consider when looking at properties to better understand how various purchase prices and property taxes would affect mortgage payments. Note that some of the figures are based off the assumption of 30 year fixed mortgage at a 4.0% interest rate. This was the prevailing rate when we first started talking with our mortgage lender at the beginning of 2020. Rates have fluctuated since then but many of these rules of thumb still ring true.
- Conforming Loans are loans under $510,000.
- Jumbo loans are for amounts over $510,000. A 20% down payment is recommended to get a preferred interest rate and the underwriting process is reviewed with more scrutiny.
- Target down payments of 10%, 15% or 20% of purchase price. Putting down 17% of purchase price will result in the same amortization schedule as a 15% down payment.
- Private Mortgage Insurance (PMI) is required for mortgages with less than 20% down payment. PMI is relatively inexpensive at between $75-$200/mo.
- Every $100,000 borrowed towards a home purchase is equal to $500/mo. in payments. As an example, $400,000 borrowed will be roughly $2,000/mo.
- Property taxes are impactful! For every extra $100/mo. spent on property taxes, you give up $20,000 in home value purchasing power. Pay attention to those taxes.
- Housings costs should represent no more than 30-35% of your family net income.
Another set of questions to ask yourself about a potential home purchase is the longevity of the decision. How long do you see yourself in this home?
While it may seem premature to already think about the next home before you even move into this home, it’s a good question to ask yourself. The reason being that a home is an asset that builds equity over time. The longer you are in the home, the more time you have to build equity in the event you need to tap the equity down the road. Studies show that it takes anywhere from 3-5 years for a homeowner to “break even” and begin building equity in their home.
The reasons for this lag in time is to make up for all the costs associated with closing and those early mortgage payments where the majority of the payment is allocated towards the mortgage interest and the not the principal. The best way to approach a property purchase is to buy something that will work for your family for at least the next five years, this will increase the chance that you will more than break even when selling that home and move to the next.
In summary, don’t make a property purchase if you don’t see yourself holding onto that home over the next five years.
In other words, does this house purchase compliment my other goals? Purchasing a home is one of the biggest financial decisions you will make and should not be approached lightly. Not only is it a big financial decision, your mortgage is likely the biggest line item on your budget.
It’s important to run the numbers to ensure that your income will support this new home purchase and that it won’t be at the cost of other financial goals. If you are running the numbers for a house you fell in love with but are saying/thinking one of the following:
- We can make this work; I’ll just decrease my 401(k) deferrals.
- If we buy this home, it’ll be hard for us to save money each month.
- It’s either this house or helping our kids with future education expenses/fill in other financial goal here.
- We can swing the down payment, but we won’t have an emergency fund.
- I’ll get a raise eventually, so cash flow won’t be tight forever.
- Have I made my point?
Then you need to walk away from that house. There is likely a better house out there for you and your family that won’t blow up your financial situation. No house is so perfect that it should be at the detriment of your other financial goals. Trust me, we had to walk away from a house that would have put a strain on our cash flow and I am so happy we did! The next house that came on the market was even more perfect and worked with our finances. If we went with that first house, we would have never seen our future home!
Once again, I recommend going through a cash flow analysis to understand how much home you can afford while still pursuing other financial goals. A home is not the end all be all. Sharing a series of worksheets I created and used during the house hunting and goal alignment process.
Best of luck as you start the home search! If you need recommendations, referrals or would like to review your personal financial situation I’d be more than happy to chat. You can reach out to me directly on my contact page or email me directly at email@example.com.
Happy House Hunting!