You’ve been laser-focused on your studies for a long time. It may even feel like you’ve been in school forever. But eventually, your hard work pays off. You’ve got those prized initials, MD or DO, after your name and, with them, may come the breathing room you need to finally pay attention to the rest of your life, such as homeownership.
Many new docs pull up stakes and move to a new town to begin their internships or residencies. And they’re faced with the question of where they’re going to live for the next few years. Buying a home looks like a smart option—why throw away money on rent when you could be building equity in a hard asset? But it can also seem daunting. Many of us are trying to climb a mountain of student debt and wonder if we can actually afford to buy a home. Here’s the good news: you probably can. But homeownership is not a decision to be taken lightly. There are potential pitfalls along the way to buying a home. So let’s take a look at how you can sidestep them and make your first homebuying experience as smooth and financially sound as it can be.
Your dream home might be a sprawling Victorian farmhouse miles outside the city or a modern Manhattan condo overlooking the river. But you may have to defer your dream for a little while. One of the most common mistakes new homeowners make is purchasing a home that stretches their budgets too far. So it’s best to review your financial position before you even begin looking for a home. What kind of monthly income can you expect? Are you responsible just for yourself or do you have kids that will need healthcare, a new school wardrobe every year, and maybe some piano lessons? How much will you have to spend to stay current on your student loans? Budgeting for homeownership is crucial and you’ll have to look at every line item on yours to get a realistic view of how much home you can afford. Many financial experts recommend that you spend no more than 50% of your income on necessities like housing, food, and utilities. If you’ve never actually created a budget, you may want to explore a few approaches to drafting one to see which one suits your style.
When you shop for a mortgage, you have the option of getting prequalified for a loan. That’s when a mortgage lender gives you a non-binding estimate of how much they’d be likely to lend you and at what interest rate. Prequalifying is another way of injecting some realism into the sometimes heady process of buying a home.
Pick the right size home
Studies confirm that moving qualifies as one of life’s most stress-producing experiences. It’s disruptive, time-consuming, expensive, and has a lot of emotional symbolism attached to it. In other words, it’s not something you want to do very often. So be like Goldilocks. Pick the home that’s just right in size, keeping in mind whether you expect your square footage needs to increase in the near term. Large homes can be more expensive, of course. But you can get around that sometimes by not buying one in the most expensive neighborhood in town. On the other hand, some homebuyers wish they’d chosen a smaller home once they understand all of the costs of owning a large home.
Take all homeownership costs into account
Your mortgage payment will typically cover four expenses: the principal and interest you owe your mortgage lender each month, a portion of your property taxes, and a portion of your homeowners’ insurance premium. But it costs money to maintain your home’s exterior or fix a leaky pipe. You may need to install a security system and pay monthly monitoring fees. An appliance or two might break down and you could find yourself shelling out a couple of thousand dollars for a fridge. Real estate experts recommend you set aside between 1% and 4% of your home’s value for maintenance costs. If you’re moving into a newly constructed house, you can expect your initial costs to be lower. But if you have your sights set on “This Old House”, all bets are off and you’ll want to aim for the high side of that range. You may also want to consider purchasing a home warranty in anticipation of large repair costs. Some sellers even include a one-year warranty when they put their homes on the market.
Home financing can be complicated. Finding the right mortgage—which usually means the least expensive one—depends on your ability to analyze your options.
Mortgages come in two basic flavors—fixed-rate loans and adjustable-rate loans. Choosing an adjustable-rate loan—that is, a loan with an interest rate that will change every few years—may yield you a lower interest rate initially. The spread between fixed and adjustable interest rates can be nearly a point. On a $300,000 loan, that translates into over $900 in monthly savings. But to figure out whether an adjustable-rate loan is your most economical choice, you have to make a prediction. Essentially, you’re betting that rates will have gone down in the mortgage marketplace when your loan is adjusted. When rates are low—as they are right now—it’s often a better choice to lock in a fixed rate for the life of your mortgage. On the other hand, if you only plan on keeping your home for a few years, it may make sense to take advantage of the lower interest rate you’ll get with an adjustable mortgage.
Mortgages are issued by a wide range of lenders. Some work with the Federal government to extend loans that are government-guaranteed. These include Veterans Administration (VA), US Department of Agriculture (USDA) loans. In the case of the first two, if you qualify, they’re almost sure to represent your lowest cost option. Not only do VA and USDA loans come with below-average interest rates—because lenders perceive them as lower-risk—they offer other perks, too. These include the option to buy a home with no down payment and no mandatory Private Mortgage Insurance (PMI). With a traditional mortgage, homeowners must carry PMI until they amass 20% equity in their homes. Monthly PMI premiums can add $100 or more to your mortgage payment. That’s one more way VA and USDA loans save you money. Incidentally, both offer the choice of borrowing at a fixed rate or an adjustable-rate. And you may be able to qualify for a government-guaranteed mortgage even if you’ve been turned down by other lenders.
The old adage, “There’s no such thing as a free lunch” applies in mortgage lending. Lenders will make their money wherever they can. Sometimes, they do it with fees known as loan origination and closing costs. Some closing costs, like title search fees, are unavoidable. But some are applied at the discretion of the lender. So when comparing loans, be sure you factor in closing costs when you calculate the lifetime of your loan—something you should do as a part of a thorough loan comparison.
Become a low-risk buyer
One of the most influential factors mortgage lenders use when deciding what interest rate to offer you is your credit score. All other factors being equal, the lowest mortgage rates are reserved for people with the highest credit score. Ideally, you’ll research your credit profile many months before applying for a mortgage. That gives you time to do some credit repair, if necessary. Download a free copy of your credit report. If your score isn’t in the mid-700s, take the necessary steps to bring it up. Bringing all of your credit accounts up to date will do wonders. Your ability to meet a payment due dates accounts for about 30% of your credit score. Arguably, it’s even more important than your total debt to lenders. That’s good news if you’re carrying high student loan balances but making your payments on time. Using less of your available credit can also boost your score so pay off any small balances you have lingering.
Trust but verify
Sellers can be the nicest people in the world but still mislead you. In an effort to negotiate the highest selling price for their homes, they may neglect to mention a few things. Maybe they aren’t even aware of certain defects in their homes. That’s why a licensed home inspector can turn out to be your best friend. Don’t ever skip a home inspection, even if your lender doesn’t insist on you having one. Not only does knowing what needs fixing in your home help you plan for the costs of homeownership, but it can also be a strong negotiating tool as you and a seller agree to the final terms of your home purchase. Before you make an offer on a home, be sure to ask the seller to provide copies of past utility bills, too. The more you know, the better able you’ll be to estimate your fixed costs.
Don’t rush in
If you’ve been reading the news lately or simply listening to the neighborhood scuttlebutt, you’re probably aware that the real estate market is hot. Tales abound of bidding wars between buyers and houses being sold sight unseen. But as a first-time homebuyer, you ought to be a little more cautious. Resist being pressured into a hasty decision by an over-eager realtor or mortgage lender. Homes are fetching higher prices now than they have in a long time. But you don’t want to pay top dollar in the midst of a housing bubble because you expect home prices to rise at the rapid rate they’ve risen during the global pandemic. Most real estate market analysts, including Freddie Mac, predict much more modest home price increases in 2022.
Not that you should drag your heels if the right deal comes along. Homeownership, over the long term, has proven to be a wise investment—it’s an effective tax strategy, hedges against inflation, and has provided countless people with a nest egg they can use for major expenses or retirement. Wait. You’re not yet planning for your retirement? Well, that’s another conversation we have to have.
Watch this page. I feel another article coming on.