So, you’re thinking about buying your first home. If you’re like most people, you’re probably discouraged with thoughts of the roof caving in after you move in. You also probably think it’s just straight-up impossible since you don’t have enough cash for a 20% down payment plus all the closing costs. We could go on and on with the potential downsides people come up with as a reason not to become a homeowner.
We’re here to tell you that purchasing and owning a home isn’t all that complicated or scary if you do it the right way. For example, did you know that most first-time homebuyers use a program that allows them to put just 3.5% down? This article will detail step-by-step everything that you need to do to get the home of your dreams, as well as how long you can expect each step to take.
1. Get pre-approved for a mortgage (1-3 days)
When you think of buying a home, who do you think you should contact first? Most people would say a real estate agent. They are the ones who will be browsing through listings with you and showing you properties, right? A smart homebuyer, however, should talk to a mortgage loan officer first. Let us explain why.
Getting pre-approved for a mortgage is key to a smooth homebuying process. A pre-approval letter from a lender is instrumental – it shows the sellers and your real estate agent that you are serious about buying. It also gives you a better idea of how much home you can afford. Now, you might ask, “what exactly goes into the pre-approval process?”
There are quite a few key factors that go into whether you will be approved or not and, if you are approved, the interest rate and terms you will receive. Let’s break them down.
- Your credit history and credit score
- Debt-to-income ratio
- Stable income and employment history
- Assets and Liabilities
Credit History & Credit Score
Your credit history and credit score go hand in hand. Generally speaking, the higher your credit score and the longer your credit history has been clean, the better interest rate you will receive. Don’t fret if your credit score isn’t perfect, though; a good loan officer will be able to take a look at where your credit is lacking and help you put together a plan to get your credit up to a point where you can get a favorable interest rate.
If your credit score is below 660, you might want to start the process early and clean up your credit report. Paying off debts is always a good way to raise your credit score, and you could also consider hiring a credit repair company to take care of disputes and errors on your credit report.
Debt-to-Income (DTI) Ratio
Your debt-to-income ratio, or DTI, is also critical. Simply put, your DTI is the amount of monthly debt you have (student loan repayments, auto loan payments, credit card payments, etc.) divided by your total monthly income. As a general rule of thumb, your debt-to-income ratio should be 36% or lower. In other words, if you make $6,000 per month, your monthly debt should not exceed $2,160 in total.
Stable Income & Employment History
Lenders also like to see that you have stable employment and have been with the same employer for a while. Most prefer that you have had a steady source of income for at least two years. It’s acceptable if you are self-employed, but you will need to be able to provide two years of proof of income, as well as a few additional documents, which we will touch upon shortly.
They will also take a look at your assets and liabilities. Most lenders like to see that you have at least six months of cash reserves in a checking account or other types of liquid funds so that you will not stop making your payments if you lose your source of income. In general, the more assets and less liabilities, the better.
Finally, the lender will need you to provide relevant documents. Here is a short list of items that most lenders will ask for:
- 60 days of bank statements
- Two most recent paystubs
- W-2 tax return forms from the previous two years
- Schedule K-1 (Form 1065) for self-employed borrowers
- Asset account statements (retirement savings, stocks, bonds, mutual funds, etc.)
- Driver’s license or U.S. passport
Once you’ve assembled all of that information and gotten pre-approved, you can start looking for a real estate agent with extensive market insights and knowledge in the areas you’re interested in. A good realtor can help you navigate the homebuying process as well as the contract negotiations.
2. Find a home (1 week – 3 months)
Now that you are pre-approved, you can start your home search. Take some time to browse through listings on sites like RealtyHop and go over what you want in your new home with your real estate agent. It might take a long time for you to find a property you like, depending on how strict your criteria are. Don’t get frustrated if you don’t find something you like after a couple of weeks. The timing is ultimately determined by available inventory in the areas you’re interested in and your preferences.
Keep in mind, however, that most pre-approval offers last for 60-90 days. Suppose your mortgage pre-approval expires before you enter a contract. In that case, you can apply to be pre-approved again, but know that it might ding your credit score, as the lender will likely run another credit check, which is considered a hard inquiry on your credit report. Treat it as an opportunity to shop around and look for more favorable rates and terms.
3. Make an offer (1-3 days)
Now that you’ve found your dream home, you can put together an offer. While this step only takes a few days, it’s often the most nerve-racking part of the homebuying process. Your agent will advise you on the price to offer, based on comparable sales and properties in the same area. Once you’ve decided on the price and terms with your real estate agent, your agent will draft submit the offer letter on your behalf. If you don’t have a real estate agent or prefer to submit the offer yourself, make sure your offer letter includes:
- The address of the property you’re interested in purchasing
- Your legal name and names of anyone who would be on the deed with you (spouse, child, etc.)
- Proposed purchase price
- The amount of your earnest money deposit
- Any concessions you want from the seller (repairs, closing cost cover, etc.)
- Any contingencies that need to be met, such as mortgage contingency, inspection, and so on
- Your mortgage pre-approval letter
- Items you wish to be included in the sale (furniture, appliances, etc.)
- The date you expect to close on your loan
- The date you wish to move into the home
- The deadline to respond to the offer
Three things may happen after you submit the offer: (1) the seller accepts it, (2) the seller makes a counteroffer, and (3) the seller rejects your offer. Most likely, if your offer is within the reasonable price range, the seller’s agent will come back with a counteroffer.
If the seller accepts your offer, you will go into contract. You will also need to make an earnest money deposit, which is the amount of money you put down in good faith to show the seller that you are serious about this purchase.
Whether or not you need a real estate attorney depends on the location of the property. Having a real estate attorney by your side can be extremely helpful, as they are experts in negotiating and determining what should be included in a real estate agreement.
4. Inspection (3-10 days)
Now we want to make sure that what you saw with the property when you went on your showing is what you’re going to get. Depending on your state, an inspection typically occurs within ten days after the real estate contract is executed.
Assuming a standard period of 10 days, you would get a professional home inspector out to inspect the property within the first few days. Your real estate agent should be able to refer you to a good inspector in your area.
The inspector will give a detailed look at all areas of the home, especially ones that require a professional eye (foundation, roof, plumbing, electrical, etc.). A detailed written report would usually be ready within a day or two after the visit, documenting everything they found during the inspection. If the inspection comes back clean, you can proceed with the deal normally. If, unfortunately, there are any underlying issues, you can either ask for the seller to repair them, ask for a concession or walk away from the deal.
5. Mortgage application (1-3 days)
If the inspection report comes back clean, or if you’ve reached an agreement with the seller to address the issues, the process of officially getting a mortgage begins. A mortgage application typically asks about the property type, occupancy types (primary vs. vacation rental, etc.), your finances, and employment history. You will hear back within three days after submitting your application from the lender with a loan estimate. A loan estimate is a standardized document that outlines the loan type, term, interest rate, monthly payment, and any other associated costs you will incur. If the interest rates seem to be moving up and down a lot, consider locking in the rate.
6. Loan processing (4-6 weeks)
Once you’ve submitted the mortgage application, the due diligence process begins. This stage involves a few steps, including appraisal, title search and insurance, and underwriting. Let us break it down step by step.
Appraisal (10 days)
Before approving you for a mortgage, the lender will order an appraisal to determine the fair value of your property. The lender wants to make sure that the price you’d be paying is the fair market value, so in the case of a default, the lender would be able to recoup their initial investment. No lenders want to lend you $200k on a $100k home. An appraisal is good for you because it can protect you from vastly overpaying for a property and not being able to sell it if/when you decide to move.
Title Search and Insurance (1-3 days)
Another key thing that occurs before closing is the title search. A title search makes sure that the current and previous owners do not have any existing liens on the property and that the seller can transfer the free and clear title of the property to you. A title search is crucial as you do not want to buy a property, only to find out later that you are responsible for paying off a $20,000 property tax lien on the property. Your lender will likely require a title insurance policy so that both you and the lender are protected against any title issues.
Underwriting (2-4 weeks)
The next most important thing that occurs is the underwriting that your mortgage lender will do. The underwriters will thoroughly examine all the information you provided when submitting your application. They will calculate your debt-to-income ratio (DTI) to determine the risk level of giving you a mortgage. They will also carefully go through your finances, employment history, tax returns, and other related documents.
The lender might ask you to submit additional documents during the underwriting process. For instance, they might ask you to submit evidence on your Airbnb income or a gift letter explaining that a significant fund transfer to your account is not a loan.
If all goes well, you will be “clear to close,” and the lender will send you a “closing disclosure” three days before your closing date. A closing disclosure contains the exact amount of your monthly payment and any costs you will incur to close on your loan. During the three days, you will have time to compare the terms and loan costs to the numbers in the initial loan estimate you received.
6. Sign the closing documents and get keys of your new home (1 day)
After months of work, from searching for a home to answering emails from the underwriter, the closing day arrives. Bring your checkbook with you to cover the closing costs if you didn’t choose to include these costs in your mortgage or an escrow account. Don’t get overwhelmed by the sheer volume of paperwork you have to go through, as you are only one step away from calling the property of your dreams home.