The potential of increasing mortgage rates, home prices and rent costs are among a few of the reasons 2016 could be a good year for you to buy a home. Here’s what you can and should be doing now if 2016 is the year you want to get out of the rental circuit.
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Get Your Credit in Check
You credit score is used as a risk factor in determining your overall eligibility for a mortgage and your interest rate for certain loan types. Other credit factors, like debt, also affect how much you will be approved to borrow for home financing.
- Pay all of your bills on time. Even one reported late payment can drop your score anywhere from 60 to 110 points, depending on your credit history.
- Pay down debt, especially on higher interest credit cards. This will reduce your minimum monthly payments and your debt-to-income ratio, a significant mortgage affordability factor. Aim for less than 30 percent credit utilization on each credit card; less than 10 percent is ideal.
- Check for errors on your credit report. An estimated one in five credit reports contain a serious error, according to the Federal Trade Commission. Look for common errors like inaccurately reported late payments, credit limits, and account balances.
- Close any old, unused accounts. Though it may remove the temptation to make credit charges, it can also shorten your credit history and drop your credit score.
- Make any large purchases on credit if you don’t plan to pay it off immediately.
- Open any new types of credit. Inquiries on your credit report can drop your score, especially if several are made in a short timeframe.
- Pay off any old collections…yet. When you meet with a lender for a pre-approval, they’ll run your credit and make sure you are aware of any outstanding collections. Wait for the go-ahead from them to pay it off. Collections usually become a pending condition to close, because paying that old collection off brings that discrepancy to the present and your credit score can take a significant hit.
Start a Savings Plan
Unless you are financing your home with a no down payment option, like VA or USDA Rural Development Loan, you will likely need some savings for a down payment, as well as closing costs. Closing costs typically run anywhere from 3-5% of a home’s purchase price.
On top of down payment and closing costs, it’s a good idea to have a financial cushion for things homeownership might throw your way, like regular maintenance and repair issues. On average, homeowners spend between 2-3% of their home’s value on annual upkeep.
Get Your Documentation in Order
Paperwork is an inevitable part of the mortgage process and having it ready to go can help keep your financing moving forward in a timely manner. Once your pre-approval is compiled, your lender will ask for various documents, including but not limited to:
- Last two years W-2’s and federal tax returns
- Last 30 days paystubs
- Two-year residency history
- Last two months bank statements for all financial accounts, including investments
Set Your Homebuying Budget
Mortgage affordability is dependent on multiple factors, including income, mortgage rates, mortgage insurance, home type, credit history and score, fees and closings costs, etc. While your lender will use ratios, like debt-to-income, to determine how much you can borrow, it's important to determine what you are comfortable spending monthly on a mortgage payment.
Most Importantly, Meet With a Lender
Notice that every single step of home preparation involves some aspect of your mortgage affordability and eligibility? Getting a pre-approval or loan commitment is the most important piece of the homebuying puzzle, because they allow you to determine the best financing options available to you, as well as your loan eligibility and home affordability.
Even you aren’t ready to buy in the early months of 2016, by meeting with a mortgage banker, you can set savings, debt and/or credit goals to get in the optimal position to buy a home.
For more information about buying and financing a home, download our free Mortgage 101 Handbook for everything you need to know about the process.