The Road Home: A Homebuyer's Guide to Financial Planning

Aaron Stevens |

If you're getting ready to buy a home, there are a few key steps you can take to prepare your finances for this major lifestyle shift. Here we discuss three things you can do to make the transition to homeownership as smooth as possible.

Check Your Credit

Generally, the higher your credit score, the lower your interest rate on an auto loan, personal loan, or mortgage.1 A high credit score can indicate that you pay your bills on time and have a healthy debt-to-income ratio–two factors that reduce the risk that you'll default on a mortgage loan. A low credit score, on the other hand, can indicate that you're at a higher risk of default—which can mean that lenders will charge you more in interest or even deny your mortgage application.

This doesn't mean that fair or even poor credit will prevent you from buying a home, though. Often, you may be able to explain to the lender why your credit score is lower than it could be. Since even a single missed payment can ding your credit score, showing that you've paid your bills on time since then can go a long way toward improving your standing in your lender's eyes. You may also be able to explain score-reducing factors like closing out an older credit card or having a high debt-to-income ratio.

Save a Down Payment

The amount you'll need to save for a down payment depends on a few factors:

  • The type of loan you're seeking
  • The price of the home you're planning to purchase
  • Your credit score

If you're taking out a Federal Housing Administration (FHA), U.S. Department of Agriculture (USDA), or Veterans Affairs (VA) loan, you may be able to put down less than the traditional 20 percent down payment. And if your credit score is high, you could get by with a lower down payment as your risk of default is lower. On the other hand, if your credit score is on the lower side, you may need a bigger down payment than someone with higher credit.

When you're saving for a down payment, don't forget the "extras," like closing costs. If you're planning to purchase a $200,000 home and have exactly $40,000 saved, you may still wind up paying a bit extra—things like title insurance, a mortgage origination fee, and prepaid expenses like property taxes and homeowner's insurance will all be tacked on to your closing costs when you purchase your home. Having a bit of wiggle room can help reduce your home-buying stress.

Ensure You Can Afford Your Housing Payments

When you pre-qualify for a loan, you may be surprised at how much the bank thinks you can afford per month. But it's important to remember that mortgage payments aren't the only cost of homeownership. You'll want to budget an appropriate amount for home maintenance, repairs, new furnishings, and other home-related expenses.

This often means purchasing a home that costs less than you've been pre-approved for—since if you buy at the absolute top of your budget range, you could find yourself scrambling the first time you face an expensive HVAC repair or a higher-than-average utility bill.

There are a number of free online calculators that can help you assess how much you'll pay each month in housing-related costs. You may want to preview these costs by setting aside the amount over and above your current housing costs and evaluating the impact on your budget. A financial professional can assist you with this calculation.

Footnote

1 What credit scores do I need to get a personal loan?, Credit Karma, https://www.creditkarma.com/personal-loans/i/personal-loan-credit-score

 

Important Disclosures

 

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

 

All information is believed to be from reliable sources; however LPL Financial makes no representation as to its completeness or accuracy.

 

This article was prepared by WriterAccess.

 

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