Our clients often wonder how to determine the right price range when buying a new home. This is especially important for first-time home buyers, who want to make sure they will be able to comfortably meet their financial obligations, both at the closing table and over the coming years.

How Much Home Can You Afford? The Rule of Thumb
A basic rule of thumb is that, if your credit is good and your debts are not excessive, you can afford a mortgage of approximately two and a half times your annual gross income (your income before taxes are taken out). In reality, though, your income is only one of several factors that a lender will consider. Your debt is also an important consideration in determining how much a financial institution will lend you.

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How to Prepare for your Big Purchase
So you’re ready to take the plunge! Buying a home involves many steps, and it’s important to make sure all your bases are covered. Before you fill out an application, there are a few things that need to be considered:

    Down Payment
    This is the money that you will be paying down on your home at the time you close, or sign the final papers agreeing to the terms of your loan. The larger the down payment, the smaller your monthly payments will be – so think about your financial situation. Have you recently acquired or do you have access to a large amount of money, such as savings, stocks, an inheritance or gift, or retirement plan that you can borrow against to help reduce your monthly payment? Or are you lacking in funds currently, but know that your monthly income will increase steadily, allowing you to make larger monthly payments?

    Most types of loans will require you to put down at least a small percentage of your own money toward the down payment. If you do plan to use money that has been given to you as a gift, you may be asked to provide a letter or signed statement from the giver to verify that it is a gift and not a loan that you will need to pay back. Also, putting down less than 20% of the cost of the home will usually require you to pay mortgage insurance as a part of your monthly payment. This protects the lending institution in case you fail to make your monthly payments. As soon as you have built up 20% equity in your home assuming you have made your mortgage payments on time, you will no longer have to pay mortgage insurance.

    Credit History
    Another thing that banks will look at is how well you’ve managed your debt in the past. They will do this by looking at your credit history to determine how much outstanding debt you have, and your history of making timely payments to your creditors. It’s always a good idea to obtain a copy of your credit report before applying for a mortgage, so you can review it for any discrepancies that may reflect badly on you. Mistakes can happen, and it’s better to spend a few minutes to catch them beforehand than to delay the mortgage process trying to clear up an error. Don’t think that an imperfect credit history will prevent you from buying a home, though. Your loan officer can help you find a loan product that fits your credit situation.

    Pre-qualification vs. Pre-approval
    You’ve heard these terms used – what exactly do they mean, and what's the difference between the two?

    Pre-qualification
    Your loan officer looks at your monthly income, as well as your debts and credit history, and determines approximately how much you can afford to borrow. Because the loan officer is only crunching numbers without doing any behind-the-scenes verification of these details, the dollar amount that you are given is just an estimate and is intended only to give you an idea of what you may be approved for.

    Pre-qualification is a good idea before you begin looking for a house, so that you have a price range for you and your realtor to work within.

    Pre-Approval
    During this phase, an actual loan application is filled out, a credit report is run, and you are given a letter of approval stating that the lender has committed to lending you a specified amount of money. The more information that you are able to provide up front, the faster and less complicated the final approval process will be. Pre-approval is recommended once you are well underway with your home shopping, because most approval letters expire after 30 or 60 days (this varies by lending institution). It’s a good idea to get pre-approved before placing an offer on a house because it strengthens your negotiating position if you are competing with other bidders (you won’t have to put a “contingent upon approval” clause in your offer) and also speeds up the process once your bid is accepted.

What to expect when you apply for a mortgage
Now that you're ready – you've found your house, assessed your financial situation and your savings is burning a hole in your pocket – there are a few things to know before you actually fill out an application. Aside from reviewing your credit history to make sure there are no surprises, you should put together certain paperwork that will verify all the information that you're providing on the application. Here are some things that you will be asked to provide before your loan can be processed and approved:

  1. Employer's name, address and phone number. If you have been with your current employer for less than two years, you will need to provide your previous employer’s information as well.
  2. W-2s for the past year and past month’s paycheck stubs, showing year-to-date earnings. If you are self-employed, you will need to show your most recent tax return as well as a year-to-date Profit & Loss statement.
  3. Past month’s statement for all bank/investment accounts as well as account numbers, financial institution name and address.
  4. Proof of residence for past two years – landlord name/address or mortgage lending institution name/address for proof of home ownership.
  5. Contract on sale of present home, if being sold.
  6. Copy of current real estate contract.
  7. Social Security card and Drivers License.
  8. Copies of divorce or bankruptcy papers (if applicable).
  9. For VA applicants – copy of DD214 discharge papers and/or original Certificate of Eligibility.
  10. Check for the application fee (includes credit report and appraisal costs).

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