Achroma’s First Time Home Buyers’ Guide
- August 28, 2019
The primary focus of today’s post will be First Time Home Buyers. You can steadily rely on this guide as you navigate your first home purchase or as a refresher for a more seasoned home-buyer. Home buying can be a tumultuous and scary process, but it doesn’t have to be! The guidance below should help alleviate stress, save money and avoid common pitfalls. And, of course, if you have any questions or want to talk about some of your concerns please reach out to one of our non-commissioned Loan Coaches at 855-676-9329.
The following steps are somewhat sequential but every borrower’s journey is different so this list doesn’t have to be completed in the order that’s laid out below and there are certainly steps you can skip or that don’t apply to your particular situation:
- How much house you can afford?
- Where do you want to live?
- Get prequalified
- Pick a Real Estate Agent
- Get your financial ducks in a row
- Make an Offer That Can’t be Refused
- Pre-approval and Your Mortgage Application
- Home Inspection
- Processing, Underwriting, Closing
This will be determined by three factors:
- how much down payment you can afford?
- how much money you earn, and
- the mortgage product you select.
Let’s start with that first part, the down payment. You might have heard that it makes strong financial sense to put 20% down if you can afford it, but this is by no means a hard and fast rule. If you can’t afford a 20% down payment, there are still tons of great options out there with less money down. In fact, you can put as little as 3% down on certain loans. On a $250,000 purchase that would be $7,500, as opposed to $50,000 for 20% down, which allows you to buy sooner than later if you’re having a hard time saving for that down payment.. Sounds too good to be true? Well, yes and no. The catch here is the higher loan amount leads to a higher monthly mortgage payment as well as the addition of mortgage insurance. Let’s walk through those extra costs and see what they look like using the $250,000 example I started above.
The basic home buying formula is down payment + mortgage amount = purchase price, so by putting $7,500 down instead of $50,000 for a home worth $250,000 that increases your mortgage balance by $42,500. Assuming a 4% rate on a 30 year fixed mortgage that would increase your monthly payment by roughly $203. The second additional cost is mortgage insurance, which is required on conventional loans with down payments that are less than 20%. This is an additional monthly payment and, assuming you have good credit (i.e. 700+), in the scenario above it would be approximately $83/month. So by putting down $7,500 you avoided an extra $42,500 in upfront cost but it’ll add $286/month to your housing payment. See the table below to help visualize this scenario:
|Scenario 1||Scenario 2|
|Down Payment||$7,500 (3%)||$50,000|
|Loan Amount||+ $242,500||+ $200,000|
|Purchase Price||= $250,000||= $250,000|
|Monthly Mortgage Payment (30 year fixed rate with 4% interest rate)||$1,158||$955|
|Monthly Mortgage Insurance||+ $83||+ $0|
|Total Monthly Payment||= $1,241||= $955|
The second part of how much house you can afford will be based on how much money you earn. You should take all the money you earn in a year before paying taxes and divide that number by 12. For example, if your job pays you a salary of $75,000/year then dividing $75,000 by 12 is $6,250/month. This is the amount you can use when qualifying for a mortgage. Typically lenders like to see a ratio of 28% between the monthly housing payment and your monthly income. This means in our scenario above you could afford a housing payment of $1,750/month (or 28% of $6,250).
The third part of how much house you can afford is the mortgage product you select. Given a loan amount of $242,500 ($250,000 – $7,500) your monthly mortgage payment could vary from $1,158 on a 30 year fixed rate product at 4% to $1,704 on a 15 year fixed rate product at 3.25%. A good rule of thumb here is that your lowest payment will be on a 30 year mortgage but you’ll pay a higher interest rate.
Now that you’ve determined how much house you can afford you can use this information to determine where you want to buy. Keep in mind that you can reverse these first two steps. You can determine where you want to buy first and then figure out how much house you can afford to narrow down the choices in the area you have selected.
For argument’s sake, let’s say you know you want to live in the Denver Metro Area but you’re not sure about which neighborhood to choose. I would recommend visiting a site like Zillow or Redfin and using the search functions to narrow down your search by price at the very least. You can certainly filter by more than that though so it’ll just depend on what you want.
Once you’ve found all the homes that meet your requirements you can use the map function to see which neighborhoods have a decent amount of homes for sale that meet your criteria. Once you have a couple of neighborhoods selected, start going to some open houses. This will accomplish two things: 1) you will get to look at some actual houses and start to get a sense of your likes and dislikes and 2) you will get to drive around the neighborhoods you’ve selected and better determine if you like them or not. Houses and neighborhoods could look great on paper but then when you see the real thing it’s not what you expected. This logic should also apply in reverse as well.
At this point I’m hopeful that all that driving around wasn’t just a waste of gas and that you’ve compiled a list of needs, wants, likes and dislikes for picking your perfect home. In step 1, you figured out how much house you could afford, now let’s get a lender to confirm this through a prequalification letter (a “prequal”) so that the seller and your real estate agent know that you’re ready and interested.
How will the prequal work exactly? Let’s work through a quick example using Achroma. On the Achroma website, click the “Start Now” button in the top right hand corner, which will take you to our screener. We’ll ask you a few questions and then present you with our mortgage rates for the day. If you accidentally entered the wrong information during the screener, you can edit all those fields on the left, hit the update search button at the top and it will refresh your mortgage options.
In browsing these options, a simple rule of thumb is that the shorter the term, the higher the monthly payment. If you are concerned about affordability then the best product would be a 30 year fixed rate product. Achroma has two 30 year fixed products that are readily available: “conventional” and “FHA” or a third for military-eligible borrowers, a “VA”. If you are military-eligible, a VA loan is often the best choice for you, otherwise I would recommend a conventional loan since FHA loans come with an upfront additional charge of 1.75% (called upfront mortgage insurance) and most of them come with a monthly mortgage insurance premium that you’ll need to pay for the life of the loan. I won’t go into too much more detail here but if you want to know more about these three different loan types, read Achroma’s blog posts on the ins and outs of Conventional, FHA and VA loans. You can also call one of our non-commissioned Loan Coaches at 855-676-9329 if you need help selecting a product, as the choices can be overwhelming.
After selecting a product you’ll be brought to the next screen where you will select start an application. You will be prompted to create a login and then be brought to your loan dashboard. Once you’ve done that just send us an email at firstname.lastname@example.org with your first and last name and…voila you have your own personal letter with your name on it! You can take it with you when you go to look at houses to indicate to the selling agent that you are serious.
You might already be working with a Real Estate Agent, but if not, rest assured we’ve got you covered. Achroma has relationships within the local real estate community and would be happy to refer you to a Real Estate Agent that works for you. If you decide to look on your own then make sure to follow a few simple steps:
- Interview at least three agents so you have a basis for comparison.
- Get a list of references from the agent. If they are truly good at their job then they will have this ready and encourage you to reach out to those references to verify their experience.
- Ask the agent how they plan to find the best house for you. A good agent will provide a detailed and insightful answer.
- Ask for a recent list of sales where they acted as the buyer’s agent. Try to get a detailed list in writing with addresses, sales prices and sales dates. Pay close attention to the prices to see if they are within your budget requirements. This will help determine if the relationship will be a good fit.
- Once they provide their recent sales list, ask if they could share their original comparative market analysis (CMA) value for each home. This is what they thought the home was worth before they put in an offer on behalf of their clients. This will provide insight into how well they read the market (i.e. consistently offering above list price in a seller’s market where buyer competition will be more fierce).
No matter who you choose, Achroma will work hand-in-hand with your Real Estate Agent to get your deal across the finish line.
Obtaining a mortgage will require a thorough review of your financial and credit histories. Here are a few simple steps you can follow to ensure you’re ready:
- Continue to make all monthly payments. Staying vigilant on all your payments is always a good idea but it’s particularly important when you are about to borrow more money.
- Don’t apply for any additional credit. This could hurt you by increasing your monthly payments as well as reducing your credit score, which can hurt your approval chances.
- Don’t significantly increase your debts – similar to the step above this could impact your approval chances through increased payments and a reduced credit score.
- Discuss any employment changes with your lender. Your lender is going to verify your employment through document collection at the beginning of the approval process but they are also going to call your employer right before the loan closes to verify your employment. If you are planning to switch employers during the loan approval process, it’s important to let your lender know as soon as you can so that closing delays don’t occur.
- Gather your financial documents. You’ll be required to provide a series of documents demonstrating your ability to pay back the loan. This will mostly include documenting your income and your assets. Having your most recent paystubs, W2s, tax returns and bank statements ready will help speed your approval along. With Achroma you can upload these directly during the application process.
This is the big moment you’ve been anticipating…you make an offer and go under contract and take the entire process from speculation into reality.
As mentioned above, your agent will prepare a CMA to give you a sense of market value for the property. Make sure to review this document since it’s the basis for your offer amount. You certainly don’t want to overpay but you also don’t want to make an offer that is too low that will be rejected out of hand. You can verify the details on the CMA by looking at the comparable sales that the agent used and see if they make sense. If you don’t feel comfortable doing this analysis, feel free to submit it to your Loan Coach at Achroma. We have trained valuation experts on staff and they would be happy to review your CMA.
Once you and your agent agree on an offer price then it’s time to submit it. This could really go a number of ways depending on the current state of the local housing market. If it’s a seller’s market you will probably have to make an offer above list price but if it’s a buyer’s market then you’ll probably want to make an offer below the list price. Either way there will most likely be a negotiation that goes back and forth until you both arrive at an agreed upon price. Once that price is accepted by the seller they will have their agent draw up a purchase contract for you to sign.
Review the purchase contract carefully and possibly engage an attorney to review it. This sounds expensive but it doesn’t have to be. My wife and I reached out to a real estate attorney through Upwork when we purchased our first home and got someone to review our contract for $100. Key things to look for when you review the contract are verifying all the details are accurate (purchase price, date, names, addresses, etc.) and making sure there is a home inspection contingency. This allows you to back out of the deal if a home inspection reveals defects that you aren’t comfortable with accepting as-is (more on this later).
There is an important distinction between a prequalification and a pre-approval though they confuse even those of us in the industry. Pre-approval is similar to the prequal but the lender will verify all of your information through document collection and review. You can complete the pre-approval right after the prequal back in step 4 if you so desire. The reason to do this would be so that you have more confidence in your home buying power.
During pre-approval you will complete a mortgage application and provide documents to support your financial background. The application consists of a series of questions about your finances, including six crucial pieces of information that trigger the release of certain initial disclosures (important regulatory paperwork). The six data points are name, social security number, loan amount, purchase price (actual or estimated), property address, and income. If you decide to do the pre-approval back in step three then you would avoid triggering all that paperwork by providing everything except the property address, since you don’t know it yet. This might be preferable for you since lenders tend to aggressively push for your intent to proceed once a Loan Estimate has been sent.
Typical documents collected include paystubs, W2s, tax returns, bank statements, etc. If you are really type-A like me, you can have all of this ready to go before you even apply (see step 3)! Either way, you will provide these documents during a pre-approval and the lender will review them to verify all the information you gave them on your loan application. The lender will also pull your credit report to determine your history of repaying debt. Because your income, assets, debts and credit score have all been verified, the pre-approval is more substantial than the prequalification. If you decided to get pre-approved before making an offer it would show the seller you are a more serious contender. This could be the difference between winning a bid or missing out.
If you complete the pre-approval at this stage and do provide all six pieces of information mentioned above, then you will receive the most important disclosure, which is the Loan Estimate. This will show all of your initial fees, your rate, the loan amount, the APR and some other pertinent information. The Loan Estimate can essentially be used in lieu of a prequal letter at this stage.
You can and should shop around for better deals from other lenders. Once you have a Loan Estimate from one of them you can use it to leverage a better deal somewhere else or vice versa. This could save you thousands of dollars, not only at the closing but also over the life of the loan.
Once you’ve signed your purchase contract and your financing is well under way you should hire a home inspector to perform a thorough inspection of the property. This inspection should emphasize the roof, foundation, electrical system, heating and cooling, and plumbing. This will alert you to any defects or issues with the property. Ideally the inspection reveals nothing or only minor issues, but what happens if they find something more substantial?
If that happens then you would have your agent negotiate with the seller’s agent to try and get the seller to fix the issues before closing or possibly reduce the price by an agreed upon amount so you could fix it afterwards. If the seller refuses to fix certain items that you consider non-negotiable or there is some defect that you are just not comfortable with regardless of any remedies available then you have the right to back out of the contract. This will only be possible if you made sure the purchase contract included a home inspection contingency before you signed it (as mentioned earlier).
These are the next stages of your loan after you’ve decided to move forward with a specific lender. Your initial contact will pass you off to a processor who will handle any remaining document and information collection along with other logistical concerns of the loan process. At Achroma, we do things a bit differently where your assigned Loan Coach is your only point of contact throughout the loan. We feel this will give the best experience as you will not be bounced around as the loan progresses.
You will most likely have to pay for an appraisal at this point using a debit or credit card. This is the only fee that doesn’t get paid at closing and it will cost several hundred dollars. An appraisal is an independent valuation report that lets the lender know that the purchase price represents fair market value. The risk associated with your loan will be based off the lesser of the appraised value and the purchase price. Depending on your home purchase scenario and negotiations, there is a possibility that your appraised value is below your purchase price and, depending on your down payment amount, you may have to put more money down to meet the same loan-to-value ratio.
While processing is happening, the file is also being reviewed by an underwriter, who evaluates the risk on your loan. They make sure that the loan will meet all of the lender’s guidelines and that you’ve submitted all the necessary documentation. You may find that the lender asks for additional documentation or information, reviews it and then asks for more. While this might seem annoying it’s a crucial aspect of underwriting. The lender wants to complete the loan without having to ask for too much documentation but they also need to make sure the loan meets all their requirements. In order to do that, there may be some back and forth to ensure all of the necessary supporting documentation is in place.
Once the loan is fully approved by underwriting it will go to the closing team. They will prepare all of your closing documents, schedule the closing and you will be on your way! They will provide another important disclosure at this point called the Closing Disclosure Make sure to review this document and compare it to your Loan Estimate for any changes. At the actual closing you will have to review what’s called a settlement statement, which should match your latest Closing Disclosure exactly. A good idea is to request the settlement statement the day before the closing and review it so that you don’t have any last minute issues. Once closing takes place your loan will be authorized to fund and you will be a homeowner. Congratulations!
I hope you found this guide useful and we will be updating it periodically as needed so don’t forget to check back. If you have any questions please feel free to reach out to us at 855-676-9329.