Millennials Guide: Buying Your First House
Whether you call yourself a Millennial, a Gen Y'er or prefer to avoid generational labels altogether, one thing is certain: If you fall into the 18-to-34 age range, you'll probably be buying a home at some point in the not-so-distant future.
Faced with sky-high unemployment, plummeting incomes, loads of student-loan debt and tight credit, Millennials have completely different views about home ownership and long-term investment than previous generations, according to the National Association of Realtors. For serious reasons, this generation has been slow to enter the home-buying market. In fact, from 2010 to 2015, the number of Millennials living with their parents increased from 24% to 26%, according to the Pew Research Center.
The good news is, the tide is turning. For the second year in a row, Millennials represented the largest group of home buyers in America – 32%, according to a March 2015 report from the National Association of Realtors. And these numbers continue to grow. According to the 2015 TD Bank Mortgage Service Index, half of surveyed Millennials say they are either extremely or very likely to buy a house in the next year (see Getting A Mortgage in Your 20s).
Are you one of the countless other Millennials dreaming of ditching that tiny rental apartment or escaping your childhood home once and for all? Most homeowners will tell you buying a home is the biggest decision you'll ever make, not to mention one of the most complicated financial processes of your lifetime.
Fortunately, we've got you covered. Here are some key financial details to keep in mind as you dive into the daunting home-buying process.Get Your Finances in Order
Before you start shopping around for your first home, make sure your funds are in good shape (see Student Loans And How They Will Affect Your Credit). In order to qualify for a home loan, you have to have good credit, a history of paying your bills on time and a maximum debt-to-income ratio of 43%. Your debt-to-income ratio is your gross monthly income compared with your minimum payments on all recurring debts. Of course, some lenders are stricter than others. The lower your debt-to-income ratio, the more likely you'll qualify for a home loan.
Also, now is the time to start beefing up your savings to cover the down payment on your home, as well as other home-purchase costs. Although there are first-time homebuyer loan programs that offer extremely low down payments (see Credits For First-Time Home Buyers), you'll also need to tap into your savings to cover moving expenses and closing costs (more on those later).Figure Out How Much Home You Can Afford
One of the quickest ways to calculate that number is to get pre-approved for a mortgage (see 5 Things You Need To Be Pre-Approved For A Mortgage). This is an extremely important step in the home-buying process. In fact, some real-estate agents won't bother showing homes to potential buyers if they don't have a mortgage preapproval.
Before you begin your home search, talk to several mortgage lenders. These professionals will help you figure out just how much house you can afford and preapprove you for a loan. However, once you've been preapproved for a certain amount, take a closer look at your current budget and do your own math. Just because a bank says it will lend you $300,000 doesn't mean you should actually borrow that much. Many first-time homebuyers make this mistake and end up house-poor – meaning after they pay their monthly mortgage payment they have no funds left over for other costs, such as clothing, utilities, vacations, entertainment or even food.
Take advantage of mortgage calculators available online. These calculators can give you a fairly accurate estimate of what your monthly mortgage payment would be depending on the cost of the home. As you crunch all the numbers, don't forget to add up other essential home-buying costs, such as homeowners insurance, property taxes, HOA dues (if you're looking somewhere with a Homeowners Association) and moving expenses. Once you do the math, you may realize that a $300,000 home is way beyond what you can realistically afford. You may need to scale it down a bit.Pinpoint the Perfect Loan
With thousands of home loans available from countless lenders, finding the right one can be an exhausting process. Fortunately, as a first-time homebuyer, you have an awesome advantage over repeat buyers. Many first-time home buyer programs offer down payments as low as 3% to 5%, and a few require no down payment at all. Plus, some state-backed first-time programs also offer below-market interest rates. Talk to your real-estate agent or mortgage broker to learn more about these valuable first-time homebuyer programs.
If you don't have much cash to put toward a down payment, you may also consider applying for a Federal Housing Administration or FHA loan. Designed for low- to moderate-income borrowers who cannot afford a large down payment, FHA loans allow you to borrow up to 96.5% of the value of the home. To top it off, the 3.5% down payment can come from a gift or a grant, which makes FHA loans an extremely desirable choice for first-time buyers. Because the credit requirements aren't quite as strict with these loans, FHA loans are also a good choice for homebuyers with less than perfect credit.
If you're a veteran, you may qualify for a VA loan from the Department of Veterans Affairs. With a VA loan, you can borrow up to 100% of the value of the home. To qualify for this type of loan, you'll need to present the lender with a certificate of eligibility, which establishes your record of military service.Factor in PMI
If you can't afford to pay 20% of the home's value as a down payment, be prepared to pay private mortgage insurance (PMI). Conventional lenders require this insurance if you make a down payment between 3% and 19% because you are considered a high-risk borrower. PMI insurance, which is designed to protect the lender, will increase your monthly mortgage payment by 0.25% to 2% of your loan balance per year. The exact amount depends on the size of your down payment, loan terms, credit score and the cost of your home. Because PMI is a percentage of the loan amount, the more you borrow, the more you'll pay. Once you have accumulated 20% equity in your home, you no longer are required to pay PMI (see How To Get Rid of Private Mortgage Insurance).
PMI only applies to conventional loans. Federal Housing Administration loans have their own mortgage insurance with different requirements, which are usually paid up front.Don't Forget Closing Costs
According to a 2015 survey from ClosingCorp, a provider of real-estate closing data, two-thirds of Millennials who plan to buy a home are not at all aware of closing costs. If you don't realize how substantial these out-of-pocket fees are, you could be in for quite a shock as you close on your new home.
Sometimes called settlement costs, closing costs include all the fees over and above the price the property buyers and sellers must pay to complete the real-estate transaction. Closing costs may include loan-origination fees, title searches, title insurance, home inspections, surveys, taxes, credit-report charges and more. These costs can range anywhere from 2% to 5% of the purchase price of your home.
The good news is you may be able to negotiate with the home seller to pay for most if not all of the closing costs. Be sure to work out these details with your real-estate agent before you make an offer on a home.The Bottom Line
Buying a home can be an intimidating process. However, if you do your research, carefully crunch all the numbers and look to your real-estate agent (see Finding a Good Real-Estate Agent) and mortgage broker for advice and guidance, the home-buying process should go smoothly.