THERE IS NO SINGLE TIME that is best when it comes to buying a home. Rather, your individual circumstances help determine when the time is right. Most crucially, having your credit in order is the best way to get a great home loan that will make a home purchase affordable.
The vast majority of homebuyers require a mortgage. A 2018 report from the National Association of Realtors found that 88% of recent homebuyers financed their purchase. Here’s what you should do to make yourself a more attractive borrower:
- Work on your credit score.
- Maintain consistent income.
- Build your down payment and savings.
- Manage overall debt.
- Consider taxes.
- Consider whether homeownership is right for you.[
Is Your Credit Score Ready?
To qualify for a great home loan at the lowest mortgage rates, you need a solid credit score. Most lenders use your FICO score when determining how risky it is to lend to you.
FICO scores range from 300 to 850, and higher scores can help you get the best mortgage rate offers.
Joanne Gaskin, vice president of scores and analytics at FICO, says knowing your FICO score should be the first step in shopping for the right home loan. While you can pay to access your credit score, many banks, credit card issuers and other institutions now offer free access to your score as a perk.
“Be empowered and understand what your score is before you go in and start the application process,” she says. “Because that way, you’ll have a better sense of what you’ll qualify for.”
For example, if you learn your score is low, you might want to “take some time to work on your score before you start applying” for mortgages, Gaskin says.
Greg Plechner, a Paramus, New Jersey-based partner and senior financial advisor at Greenspring Advisors, recommends prospective homebuyers have a credit score of at least 620.
With this score, you can likely qualify for a conventional home loan. Note a 620 FICO credit score falls within the fair range. You don’t necessarily need to have good or excellent credit to qualify for a mortgage, though it does help in obtaining the best terms.
Can You Demonstrate Stable Income?
The typical home loan is 15 or 30 years, so your long-term income potential matters. Lenders are likely to consider your current income and look for indications that it will continue.
“Is your income predictable and growing?” Plechner asks. “Do you have at least two years of employment with the same company?”
Having consistent employment at jobs that issued W-2 tax forms could help pave the way for approval, but it isn’t a requirement. Self-employed borrowers are typically held to the same standards as employees and should expect lenders to require at least two years of stable income.
Have You Saved Enough?
Having enough savings is also crucial to successfully buying and maintaining a home.
Plechner recommends prospective homebuyers have enough savings to make a 20% down payment. With a 20% down payment, you can avoid private mortgage insurance and may qualify for better rates than a similar borrower with a lower down payment.
But be careful not to wipe out your savings for a down payment. You could lose your job or go through another life-altering experience that makes it difficult to keep up with mortgage payments. A savings buffer can help you maintain your loan until you get back on your feet.
Plechner recommends having cash reserves of at least 1% to 3% of a home’s value. “Another approach is six to nine months of living expenses in cash,” he says.
Also consider savings to manage ongoing costs. Clarissa Hobson, certified financial planner and director of financial planning at Carnick & Kubik Personal Wealth Advisors in Denver, says homeowners should prepare to spend about 1% of their home’s value per year on routine home maintenance projects.
How Is Your Overall Debt?
Lenders will consider any other debt obligations you have when approving your home loan. This factor is known as your debt-to-income ratio, and it measures the total of all your monthly debt payments divided by your gross monthly income.
Lenders may be less willing to give you a conventional mortgage if your debt-to-income ratio exceeds 43%. In that case, it might make sense to delay a home purchase for a little while as you work on paying off debt and lowering the ratio.
“It is helpful to pay off other debts – particularly high-interest debt such as credit cards – prior to obtaining a mortgage,” Hobson says.
Paying off other debts, such as auto loan and student loan obligations, before you pursue a mortgage is also smart, Hobson says. “Go after the highest-interest-rate debt first, and then pursue the others,” she says.
Plechner says if you are having trouble paying down debts, you may need to find – or create – other sources of cash so you can whittle down your debt before you consider buying a home.
“Increase your income,” he says. “Ask for a raise at work. Take on a part-time job, or freelance.”
Factor in Taxes
Recent changes to tax laws mean that for some people, the cost of financing a home might be higher than it would have been in the past.
For example, the Tax Cuts and Jobs Act of 2017 roughly doubled the standard deduction that taxpayers can take on their tax returns. As a result, fewer homeowners now have the financial incentive to itemize their deductions on their tax return. And if you do not itemize, you cannot deduct mortgage interest or property tax payments.
In addition, you can only deduct new interest on up to the first $750,000 of your mortgage debt.
Plechner says these changes will “undoubtedly increase the after-tax cost of homeownership” in states with high property and income taxes. He adds that taxpayers with large mortgages and high property taxes likely will realize a lower return on their home investment going forward.
Is Homeownership Right for You?
A mortgage is a major commitment and shouldn’t be entered into lightly. Ask a few additional questions before deciding whether it’s a good time to buy.
Hobson says homeowners should start by considering how long they plan to stay in the new home. “If it’s less than five years, they may want to consider renting instead,” she says.
Closing costs can easily add several thousand dollars to your home buying costs. If you’re not planning to live in the home very long, you might not recoup those costs.
You also might need to pour money into making fixes – both minor and major – after you purchase the home. And there is no guarantee that home values will not decline at some point, as they have in the past.
Taken together, these factors are important to consider as you make your decision.