When I was younger, I played a lot of board games with my friends, Monopoly included.
Did you know that there's an auction rule? If a player lands on a property, they can buy it for the listed price or it can go to auction where all players can bid on it, with the proceeds going to the bank. I'd been playing for years with friends, albeit as a kid, and we never knew or played with this rule.
Not knowing that rule in Monopoly isn't a big deal, but not knowing it in real life can be.
In 2005, I purchased my first home.
And I messed up a lot.
I didn't negotiate any closing costs.
I didn't ask for repairs I knew I wanted and that the home inspector pointed out.
It was a hot housing market and I let it drive some of my decisions. I rushed it.
In 2013, I purchased my second.
I learned from my mistakes and I did it much better the second time. 🙂
Today, I'll share with you, step-by-step, everything you will need to do to buy your first home the right way. This guide is long and it's just a starting point, but it will cover a lot of the things you'll need to do.
There are three phases to the homebuying process:
- Before the Buy: This phase is all about getting your finances in order from increasing your credit score to getting pre-approved for a loan.
- The Purchase: The “Purchase” phase includes the time from when you put in an offer to when the seller hands you the keys at the closing table. The decisions you make, or don't make, here can have a lasting impact on your finances for years.
- Post-Purchase: This includes getting your documents in order, getting insurances in place, and fixing all the little things so you can fully enjoy your home.
This guide covers a lot of items common to first-time homebuyers but you'll want to work with a local real estate agent. They will be familiar with the applicable local laws and process and fill in the blanks.
Before the Buy
The steps you must take before you purchase a home:
- Get your financial documents in order
- Give your credit report and credit score a tune-up
- Calculate how much house you can afford
- Get pre-approved for a loan
- Begin paying down your debts
- Start “Playing House”
- Finding an agent
Get your financial documents in order. Bank statements, pay stubs, W-2s, tax returns — every financial document you have on yourself will be required whenever you apply for a loan or pre-approval letter. Get them in order now so you can make the necessary requests if you're missing anything. If you have a bank in mind, ask them for their mortgage loan checklist so you know exactly which documents they'll need.
Give your credit report and credit score a tune-up. The most important number when it comes to buying your house is your credit score. A good credit score means a good rate on your mortgage, a bad score means a bad rate on a mortgage or perhaps no loan at all. The difference is huge.
According to FICO, the difference between the top FICO score tier (760-850) and the 2nd tier (700-756) is $13,730 over the life of a $300,000 loan. Fourteen grand over 30 years doesn't seem like a lot but wouldn't you rather keep that?
Take a look at our Guide to Increasing Your Credit Score and do everything you can to get that score up.
Calculate how much house you can afford. Before you start looking at every house, you need to figure out how much house you can afford. For this, we'll start by collecting all the debts you currently have – credit cards, student loans, car notes, etc. Next, you'll need to collect all of your income.
There are two calculations banks will make before approving you for a loan. The first is a Front-End Ratio. The Front-End Ratio is your (Monthly Housing Expenses / Monthly Income). A conventional mortgage backed by Fannie Mae/Freddie Mac will require this to be .28 or less (so your mortgage must be 28% of your income).
So the home you are looking for needs to have a monthly payment of less than 28% of your income.
Begin paying down your debts. While we're talking ratios, the next number you need to clean up is a Back-End Ratio. That is your total debt to income ratio.
Take your Total Monthly Debt Expenses / Gross Monthly Income and that number shouldn't exceed .36 (36%) for a conventional loan.
Get a pre-approved letter for a loan. A pre-approval letter is a letter from a bank that is their conditional commitment that they'd give you a mortgage for the purchase of a home at or below that amount. This is an involved process because you will complete a mortgage application and provide the bank with all the information they need to do the necessary checks. A pre-approval letter makes your offer stronger because the seller knows you can get a loan, this removing one potential hurdle to the sale.
Pre-qualified is one step below a pre-approval and is less valuable because you won't supply as much information and the bank isn't issuing you a conditional commitment.
Start “Playing House.”
“Play House” with your estimate mortgage payment.
Each month, take the difference between your future estimated mortgage and your current housing payment. Put at least that amount into a House fund. This will give you a sense of how your finances will feel like when you buy a house, plus it'll push you to save with purpose. Aim to save a 20% down payment.
Finding an agent. Once you have a handle on your money, how much house you want to buy, and the neighborhoods you want to look in… get yourself a buyer's agent. You can go with a full service broker or you can give Redfin a try (difference between Redfin and a full service agent).
When speaking to an agent, find out about state and county-specific items that might help you financially. For example, in Maryland, there's a credit for first time home buyers where you don't pay the buyer's portion of the State transfer tax (which is 0.5% of the purchase price). When you learn about these types of credits, treat it as found money. Don't adjust your purchase price because of it.
Be sure you have earnest money ready. When you make an offer, you might have to put down Earnest Money. Earnest Money is a deposit you include with your offer to show you are serious. Sometimes, the check isn't cashed (your agent will know) but you still need that money in your account should it get cashed (different states have different customs). If your offer is accepted, Earnest Money is applied to the purchase/closing costs.
This section covers all that you need to do between making an offer and the closing.
- Don't panic.
- Negotiate everything.
- Get every inspection.
- Maintain lines of communication and keep updated.
- Review your loan documents. HUD-1, etc.
- Get homeowner's insurance.
- Is the house in move-in condition?
- Bring a certified check to the closing.
- Don't forget your photo ID, proof of homeowners insurance, and your copies of the GFE and HUD-1.
- Sign on the dotted line. 🙂
On Closing Day:
Don't panic. Buying a home is a serious milestone and you can easily fall prey to panicked decisions, so take a step back and realize that there is no rush on anything.
Negotiate everything. Don't be afraid to ask for things, the worst that can happen is that the seller says no. If you're concerned about asking, remember that your agent will be the one asking on your behalf. Finally, after the close, you'll never see the seller again and it'll be very tough to reach them. Get everything you need before the sale.
This also applies to your lender. They will provide a GFE and you can negotiate down some of their fees, don't be shy.
Get every inspection It can be tempting to waive the home inspection or give up some other concession to make your offer look stronger. Don't. You are purchasing a major asset you will have to live in for many years, don't waive these.
Maintain lines of communication and keep updated. Your buyer's agent will be your point of contact with all of the various individuals advancing the process of your purchase. He (or she) will be working with the seller's agent to get the different inspections, title work, etc. While they are your agent, you are ultimately responsible for the process because you're buying your future house.
If your agent is on top of things, then you're in good shape and don't need to micromanage. If you feel your agent isn't, you must take charge and get updates and explanations.
Review your loan documents. HUD-1, etc. The lender should have given you a good faith estimate (GFE) but the HUD-1 form, known as the closing settlement statement, is the official document for your close. You have the right to review it at least 24 hours before closing, be sure to do it. You don't want to be seeing it for the first time! Here's an excellent guide on how to review your HUD-1.
Get homeowner's insurance. If you already have an insurance company for something else (renter's, auto, life, etc.), it's often cheapest to go with them right off the bat. You can comparison shop later on once you've settled in. Consider a home warranty if you want peace of mind, especially if it's an older home with older systems. (here's a list of home warranty companies)
On Closing Day
Is the house in move-in condition? Once you sign the papers, unless you're renting the home back to the current owners, it's your house. It better be in the condition you expect because you lose a lot of leverage once the house is yours. If you recently did a final walk-through and there were no major issues, you're golden. If you did it a while ago and there were some open items, you need to double-check that they were resolved.
Bring a certified check to the closing. The HUD-1 will show you how much you'll need to bring to the closing table on a certified check, the best way to pay for closing costs. Sometimes a wire transfer is OK but that often takes time and can delay the process.
Don't forget your photo ID, proof of homeowners insurance, and your copies of the GFE and HUD-1. You'll need the photo identification to prove you are who you say you are (lawyers can be picky!), proof of homeowner's insurance is for the benefit of the bank (they are giving you thousands of dollars!), and the copies of GFE and HUD-1 are for you to check for discrepancies and typos.
Prepare for the move. Whether you go with a moving company or rent a truck yourself, you need to organize this ahead of time. Try to avoid moving on the last day of the month, pick a “slower time” like mid-week where you won't face as much competition for moving trucks (if self-moving) or services.
Schedule any post-move work you want to get done. Want to replace the carpeting or get painting done? Replacing the appliances or the water heater? This is all best completed before you and all your furniture is moved into the home, so schedule the work before the closing date. With enough time, you can get multiple quotes and save money with the best offer and schedule.
Sign on the dotted line. There will be a lot of dotted lines but you get the idea.
Boom! – congrats homeowner.
After the Purchase
The post-closing process is less stressful and involved but there are still a few things you'll want to take care of.
- Change the locks
- Clean it (or hire a cleaning service)
- Submit a change of address form with the post office
- Update your address
- Ensure utilities are turned on and in your name
- Take a home inventory once you finish moving
- Re-evaluate your emergency fund
Change the locks. You want to control who has a key to your house and the best way is by changing the locks. The seller gave you every key they had but can you be sure they gave out every key in existence? Probably not. Getting locks changed isn't cheap and if you're handy you can do it yourself, but it's important to get it done.
Clean it (or hire a cleaning service). Some sellers are nice and will hire cleaners to give the house a once over after they move out. Others will leave garbage cans full of trash (when we moved into our second home, two huge garbage cans full of trash were left behind!). So be prepared to clean up or hire yourself a cleaning crew to do the job for you.
Submit a change of address form with the post office. You can do it online here or call it in (1-800-ASK-USPS) for $1.05 or do it in person at your local post office with a PS Form 3575 for free.
Update your address. Now that you've officially moved, you'll need to update your address on everything from magazine subscriptions to your driver's license. A change of address is valid for a whole year (this is for first-class mail, the period is shorter for some other types of mail) and each piece of mail that gets forwarded gets a handy yellow sticker. I use that as my guide to notify companies of an address change.
Get major home systems serviced. It's one thing to get a home inspection and it's another to get systems serviced. The technician who comes out to do the work can also estimate the remaining useful life of the unit so you aren't surprised. While they're there, ask a lot of questions so you understand the systems. Asking a human being who is working on a system is easier than trying to figure it out with Youtube videos later on.
Ensure utilities are turned on and in your name. Most utilities won't be shut off because they won't know the ownership of the house has changed hands! Call up the utilities and inform them that you purchased the home, the date the utilities should've been transferred, and be ready to supply a HUD-1 as proof of closing.
Take a home inventory once you finish moving. You're in a bigger place, you might have purchased more furniture or items, take this time to compile a home inventory. If you used a moving company, ask them for a copy of the manifest and you have yourself a solid head start.
Re-evaluate your emergency fund. The last time you thought about your emergency fund, you didn't own a home. You didn't own a home that had a heating system, a cooling system, a water heater, and a thousand other different systems that need to work correctly for you to remain comfortable. Now it's time to take stock of your equipment and adjust your emergency fund to account for potential problems.
Finally, enjoy your home! Explore the area around it, whether it's hiking trails or the downtown scene. This will be your home for the foreseeable future – get to know it, learn how to best enjoy it, and have some fun!
Buying your first home can be a very daunting task but I hope this guide demystifies some of it. If there's something I missed, please let me know!