Buying a home is one of the truest signs that you’ve “made it”; you’ve reached a point in life where you have the financial and personal stability to make the largest investment you can. There are lots of challenges to homeownership but the biggest one is failing to understand the true cost of buying a home. One of the best first time home buyer tips there is to understand the real cost of buying a home. Once you are aware of those costs, then you can decide if you are able to buy it within the scope of your long term financial goals.
The Down Payment
The conservative standard for the down payment is 20% of the home purchase price. For a $250,000 home, this means putting down $50,000 at closing.
However, there are many different financing options available. 3.5% is available to some FHA qualified buyers. In some instances, you might be able to get away without one at all, like VA loans. While you might still be able to get away with a smaller down payment, you might be required to pay private mortgage insurance (PMI) which is another cost to consider.
There is a benefit to making a large down payment though; the more you pay off in the down payment the less debt you have through a mortgage. However, the mortgage needs to be taken into consideration with the entirety of your financial plans and goals.
When the sale is complete and the closing process begins, a home buyer is expected to cover costs payable to other parties including the lender. Those “closing costs” include things such as title search fees, title insurance, underwriting, appraisal, home survey, loan origination fees, and more.
Buyers could find themselves paying between 2% and 6% of the total purchase price of a home for closing costs. Sticking with a $250,000 example, that would be between $5,000 and $12,500 in extra costs. It’s possible to negotiate to have the seller cover the costs, but it's in practice just financing the closing costs into your loan. If you want to be competitive with your offer its, not something you should be relying on.
Unless you have an incredible surplus of cash, one of the first steps to buying a home is to look into a mortgage. Taking out a mortgage means having to pay an amount of money each month until it is paid off, which can take many years. Here’s what to know about mortgage payments;
This is how much money you borrowed. If you made a $50,000 down payment on a $250,000 home, the principal amount would be $200,000.
Interest is a fee lenders charge in return for the loan. Mortgage interest rates can fluctuate massively, but they are around 3-4% for the typical 30-year-fixed-loan at the time of the writing of this blog.
Property taxes on properties pay for things such as government administration, street maintenance, snow plowing, emergency services, and other city services. They also go towards public schools, parks, and libraries. Lenders will generally ask borrowers to pay their taxes into escrow accounts. Escrow accounts allow it to be smaller bites of a big bill, so instead of having to pay off the whole bill once per year, it will be broken down into monthly amounts and included in mortgage payments. The lender will pay your taxes for you using the money gathered from mortgage payments.
Property tax is calculated as a percentage of the home’s value, with the actual amount varying by location. Expect an average of around 1.2%.
Mortgage payments may include homeowners' insurance. Much like property taxes, these payments are deposited into an escrow account. The lender will likely manage any homeowner’s insurance payments you have for you. Different lenders have different policies though. One of the things to look for when buying a house is a good lender who will manage things for you. These insurance policies cover things like theft, vandalism, and damage from fire and weather. Earthquakes and floods are often covered by separate policies.
Private Mortgage Insurance (PMI)
Banks generally require private mortgage insurance when someone makes a down payment of less than 20%. This insurance is there to cover the lender if you default on the loan. PMI will be rolled into the mortgage and payments are taken out of mortgage payments. It is between 0.5% and 1% of the loan amount.
Now you know what to know before buying a home, including the real cost of a home, you’re in a better position to make that decision. You can see how quickly all these costs add up. What looks like a $250,000 home can end up costing over $400,000 by the time it’s all paid off when you factor in the interest paid. Make sure you take into consideration your financial goals, likely owning your own house is a better choice than renting a house from someone else for the rest of your life.