You have gone through the process of determining the home price range you can afford. You have been squirreling away money for several months or even years for the home of your dreams. Now what? In Part II of this blog post, we will discuss tips for the actual homebuying process. If you missed Part I (Five Considerations in the Pre-Purchasing Process for First Time Homebuyers), you can find it here.
#1 – Should I Utilize A Mortgage Broker?
Everyone is different in this regard – some people are DIYers, and that is perfectly fine. But we do believe that bringing in the experts can be beneficial and provide tremendous value in the homebuying process.
A Mortgage Broker acts as a conduit between you the borrower and the lender. Instead of offering a single bank’s mortgage package, a broker can help in the loan origination process by connecting you with a variety of lenders who best fit your financial situation and rate requirements. The last aspect is key – they should be able to help you shop for the best interest rate, which can potentially save you thousands of dollars in the long run. The mortgage process can be quite tedious and difficult to navigate – a broker can help guide you through the paperwork process, and make sure you have the necessary paperwork to close on time. Mortgage brokers typically get paid 1-2% of the loan amount, which can either be paid upfront or added to the loan amount.
#2 – Should I Utilize A Realtor?
A Realtor can also be very beneficial in the homebuying process. First, a realtor can help match you with a home that fits your budget and lifestyle needs – they may even know about certain listings before they hit the market. They are particularly useful in determining a home’s “real” fair market value by conducting a market analysis of the area and pointing out flaws in the homes you are interested in.
Once you have a house you are interested in, they can help you navigate negotiations with the seller’s realtor, the home inspection, and closing on your home. There is no outward “cost” of utilizing a realtor in purchasing a home – the seller’s agent is compensated from the seller’s proceeds, who then turns around and pays the buyer’s real estate agent.
#3 – Get Preapproved for a Mortgage
Before you begin looking at homes themselves, you should visit several different towns to get a feel for different towns and neighborhoods. A great neighborhood can be a fantastic selling point for a home, and it also helps your home hold its value. Your realtor can provide you with comps for the area to help you understand whether it fits your budget. There are also some things you can look for by simply driving around a neighborhood. If you have children, do you see kids playing outside nearby? If you drive to work, how close are you to a highway? Are there retailers nearby (grocery stores, coffee shops, etc.)? How do you like the downtown area?
Once you have determined an area you are interested in, you can then begin looking at open houses. I have recently gone through this process, so this is top of mind to me. The very first time my wife and I went out to see open houses, we had no clear idea what to look for – what specific type of floor plan we were interested in, how to determine flaws, whether the price was reasonable, etc. The entire process was so foreign to us that we didn’t even know whether we had to knock before we entered an open house.
We weren’t interested in the first four homes we saw, but we absolutely fell in love with the fifth open house. Our realtor could not come out with us that day, so we requested a second viewing with her along with my father and father-in-law (who is a builder in Wisconsin). They meticulously looked through the home, and we regrouped outside afterwards. They didn’t quite feel as strongly as we did (that’s putting it lightly). They pointed out several key flaws that we did not see on our first viewing. The house was a flip, and the builder took several shortcuts in remodeling the home. The home was also one of the most expensive in the area, and thus, it probably wasn’t going to keep its value long term.
This was an invaluable experience for us. Every time we went out to see open houses, we started to understand what type of home we desired. Realtors we spoke with told us that you should go out to see open houses at least 4-5 times to get a feel for what you want. We also recommend that you go out with a realtor and (gulp) even your parents/siblings – someone who has gone through this process before. They may provide valuable insight as you determine what you are looking for.
#4 – Visit Neighborhoods & Open Houses (with the Experts)
We will preface this section and the next by stating that the amount you will need to put down on a home, in order to avoid Private Mortgage Insurance (PMI), is different for everyone. There are some that may not be able to save the optimal amount (more on this below), so we will talk generally. We will also not get into FHA loans, which are a bit more complex – we will tackle that topic in another article.
The conventional wisdom is that you will need 20% as a down payment for a loan, as this is the very best method to avoid PMI. For those that don’t know, PMI is an additional monthly payment that is required for those loans that typically have less than a 20% down payment. PMI is a lender's protection if you default on your primary mortgage and the home goes into foreclosure – it typically ranges from 0.5-1.5% of the value of the mortgage (NOT the home).
Many lenders will allow for a lower down payment but will either a) add PMI to the loan until the homeowner has paid off enough of the loan to get to 80% loan-to-value, or b) increase the interest rate in lieu of PMI.
Thus, you need to consider whether you are willing to put down less than 20% and cope with PMI, or whether you prefer to save the traditional 20%. There is very good reason to avoid PMI – it is essentially a dead weight additional payment that offers nothing to the borrower (outside of allowing them to put down less on the home). However, there are some instances where it makes sense to go the PMI route – this may be true when a) interest rates are low, b) the housing market is ideal for buyers (if we are at the low end of the housing cycle/buyers are in a non-competitive market), c) renting is expensive in your market, and/or d) your situation deems it necessary to purchase a home (having multiple children for instance).
#5 – Negotiate on True Cost and Do NOT Be Afraid to Walk Away
Once you have found a home you feel strongly about, the next step is to make an offer. This can be a very emotional process, and the best thing you can do is to remain stoic. The biggest issue we’ve seen is when someone absolutely falls in love with a particular home irrespective of whether it fits into their budget. The financial consequences seem distant, so its easy to talk yourself into purchasing a home that you can’t afford. One of our realtor clients told us about a buyer who got into a bidding war with another buyer and paid $200,000 over the asking price – you don’t want to be that person; you need to understand when to walk away.
You should also avoid setting false deadlines for yourself. We sometimes run across clients who want to purchase a home before getting married or having a child. For instance, my wife and I are having a baby soon, and we really wanted to purchase a home before the baby arrives. We were really close to purchasing the home, and then COVID-19 happened. The home had several key flaws, and we did feel the pressure to make the purchase due to the pregnancy. In the end, we decided to walk away, and instead, rent an additional year. This is obviously not ideal, but the bigger mistake would have been purchasing a home we really didn’t feel strongly about.
You should also negotiate on the true cost of the home, not the asking price. For instance, the asking price may be quite reasonable, but you may have to put several thousand dollars into the home after you purchase it – thus the asking price doesn’t equate to the total cost of ownership. On the other hand, the asking price may be close to the ceiling of what you can afford, but the home is completely remodeled and fits what you are looking for. In this case, it may make sense to pay closer to the asking price.
The homebuying process can be both very difficult and frustrating but also exciting and fun. If you have any questions about what we have written or want to devise a plan for purchasing a home, do not be afraid to reach out to us!
Associates of DeRose Financial Planning Group are registered representatives of Lincoln Financial Advisors.
Securities and advisory services offered through Lincoln Financial Advisors Corp., a broker/dealer (Member SIPC) and registered investment advisor. Insurance offered through Lincoln affiliates and other fine companies. DeRose Financial Planning Group is not an affiliate of Lincoln Financial Advisors.
*Licensed but not practicing on behalf of Lincoln Financial Advisors.