Buying a home is one of the largest purchases you'll likely make, and it's important to make sure your financial house is in order. Start by reviewing your bank accounts and billing statements to get a handle on how much money you're making and spending each month. If you're planning to buy a house with someone else (like your spouse), review their finances as well, and then ask yourself some questions:
- Do you have a stable income/job?
- Are you able to put away some money each month into a savings account?
- Do you have a plan for managing debt, like student loans and car payments?
- Do you typically pay your credit card debt quickly? Keeping your credit debt low will help you qualify for a better mortgage.
- Do you have some money already saved up for emergencies? A good rule of thumb is having three months of income saved.
- Do you have some money saved up for a down payment and closing costs? You should avoid using your emergency savings for this, or you could put yourself in a tight situation.
How much you need for a down payment depends on the type of loan and how much the house costs, but the more you can put towards a down payment, the lower your monthly payment can be and the more you'll save on interest.
Conventional loans typically require a down payment of at least 5% of a home's price. FHA loans require as little as 3.5%. Along with your down payment, you'll have to pay closing costs, or fees associated with processing and securing your loan. These can vary depending on the price of the house and the type of mortgage, but estimate between 2% and 5% of the home's value.
Mortgages have three elements: a loan type, a rate type and a term. Knowing how these pieces work together can help you pick the best mortgage for you.
A mortgage's type depends on if a government agency or private investors are involved, as well as the amount of the loan. FHA loans are the easiest to qualify for. They require a low down payment and FICO® score, but they can cost more over time because they require you to pay a fee called mortgage insurance. You can get an FHA loan from any FHA-approved lender. These loans are insured by the Federal Housing Administration (FHA), which just means that the FHA protects lenders against loss from homeowners who default on their loans. Conventional loans are a bit harder to qualify for, but they typically cost less over time than an FHA loan. You can avoid paying private mortgage insurance if your down payment is 20% or more. This can save you hundreds of dollars on your monthly mortgage payment. VA loans are exclusively for veterans, eligible surviving spouses and active-duty service members. VA loans offer the opportunity to buy a home with no down payment or private mortgage insurance. Jumbo loans are mortgages that exceed the conventional loan limit. This simply means that you'll need a jumbo mortgage if your loan amount is between $484,351 and $3 million.
There are two kinds of mortgage rates – fixed and adjustable – and you can pick the type of rate that matches your goals. A fixed-rate mortgage will stay the same for the life of your loan. This option keeps your month-to-month mortgage payment consistent and predictable. This is a great option for homeowners who plan to stay in their new home for a long time and want a regular payment to budget around. An adjustable-rate mortgage will stay the same for the first 5, 7 or 10 years of the loan. Then, your rates will adjust up or down once per year depending on market conditions. An adjustable-rate mortgage offers the opportunity to get the lowest rate possible and is a good choice for homeowners who plan on moving or refinancing before the initial fixed-rate period ends.
The term is the length of the loan. Most fixed-rate mortgages have 30- or 15-year terms, although you can choose any term from 8 to 30 years. Adjustable rate mortgages typically have a 30-year term.