Updated Jan 18, 2023
Buying a house is a huge milestone, but are you financially prepared to take this step? We spoke to real estate experts to get their take on what’s most important when preparing your finances for homeownership.
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Ultimately, preparedness will vary by individual, so we advise working with a financial professional to help you determine whether you’re absolutely ready to buy a house.
Ask yourself these five questions to help determine if you’re ready to buy a house.
Having a strong financial profile is one of the biggest factors when determining if you’re ready to buy a house. Not only should your debt-to-income ratio be below, but you should also have enough saved for a down payment and cash on hand for inspections, closing costs, and maintenance.
Lenders will look at your debt-to-income ratio to measure your ability to manage the monthly payments you make to repay the money you’ve borrowed. It’s recommended that your debt-to-income ratio by 43% to meet the requirements for a qualified mortgage. To calculate your debt-to-income ratio, divide your monthly debt payments by your gross (or pre-tax) monthly income.
For example, if you pay $1,000 a month for your mortgage and another $150 a month for an auto loan, and $500 a month for the rest of your debts, your monthly debt payments are $1,650. If your gross monthly income is $5,000, then your debt-to-income ratio is 33%. ($1,650 is 33% of $5,000.)
According to April Palomino, a realtor with Coldwell Banker Residential Real Estate, “You will want to get credit card bills and other debts paid down before trying to purchase a home. Lenders typically want your total debt to be less than 36% of your gross income. If it is not, you are not ready to buy a home.”
According to Randy Mintz of Mintz Homes, you should ask yourself if you can handle the mortgage alongside your existing expenses. “Does the bank think you can handle the expenses? In other words, are you paying your other bills on time, and what’s your debt-to-income ratio: do you have little enough debt and high enough income to qualify for a mortgage loan?” says Mintz.
A loan officer can help you estimate your monthly loan payments and expenses on the type of house you want. You could also use a mortgage calculator to get a general sense of what your mortgage payments will be.
Before buying a house, make sure that you can cover a down payment of at least 20% of the home’s list price. “If the amount of cash you have can cover the 20% down payment, broker’s commission, closing costs, as well as the inspection and appraisal fees, then chances are that you’re ready,” says Shane Lee, an analyst at RealtyHop.
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If you buy into a co-op, a corporation that owns real estate, you’ll need an even bigger down payment. When you buy into a co-op, you become a shareholder in the corporation that owns the property. “If you’re looking at purchasing in a co-op, you’ll need around one-third of your purchase price in order to have enough for a down payment, post-closing, and any small, miscellaneous co-op closing costs,” says Lucas Callejas, an agent at Triplemint Real Estate. For example, with a $1,000,000 co-op, you should have somewhere around $350,000 in what a board would consider liquid assets.
“Inevitably owning a home means repairs, furnishings, and other items that may come up once you move in, so a healthy emergency fund goes a long way,” says Jen Nelson, a realtor at Realty Executives. Plan to have three to six months’ worth of living expenses saved up in cash.
“Another sign that you’re ready to buy is the investment mentality and beginning to understand that you’re either paying down your landlord’s mortgage or paying down your own,” says Priscilla May, operating broker at 21 Century CARE. “Once that is realized, it becomes a bit less fearful of an experience to buy. Being willing to manage an investment is also necessary to gauge how ready you are. You won’t have a landlord to call for all your repairs but the opportunity cost is that you aren’t building their wealth; you’re building your own.”
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Having a good handle on your credit is another step in the right direction toward buying a home. Credit scores are used by lending institutions to assess your creditworthiness based on financial history, including payment history (on-time versus late or missed payments), total amount of debt, length of credit history, and other factors.
To get the lowest interest rate on a mortgage, you’ll need a credit score of 760 or higher. Credit scores below 640–670 are typically considered subprime and may make it more challenging to get and pay off your mortgage, especially with the most competitive interest rates. Those with lower credit scores may still be able to get a mortgage by shopping around and having more cash on hand for a down payment.
“While there are some great programs out there that will cater to lower scores, you’ll ultimately get the best rates when your credit is in good condition,” says May.
Even if you’re pretty sure you’re not every lender’s ideal candidate, chances are you’ll get a better deal if you talk with at least two potential lenders before deciding where to apply.
Another sign that you’re ready to buy a house is that you’ve had stable, traceable income for the past two years from the same employer or in the same industry. Requirements may differ depending on whether you are paid a salary versus hourly wages, work part-time versus full-time, and whether you are employed or self-employed. If you find that your employment history is a little too spotty, now may be the time to focus on remaining consistently employed for a year or two before applying for a mortgage.
A pre-approval letter will make you more attractive to sellers. “It makes shopping for your dream home easier and a more streamlined process,” says Palomino. “A pre-approval letter shows the seller that you are ready to buy and won’t waste their time taking their house off the market and the seller will be more likely to accept your offer. Having your pre-approval also allows closing to move along faster.”
In a seller’s market, specifically, it’s crucial that you have a pre-approval letter from a lender. According to Pat Vosburgh, realtor at Vosburgh and Vosburgh, you won’t know how many homes you can purchase, and without the pre-approval being attached to the contract, you won’t be taken seriously in the market.
Are you planning on changing your career or making a big move in the next couple of years? “For instance, if your work requires a lot of travel or is talking about relocating you to a different city perhaps holding off for a while is prudent,” says Nelson. “If you live in a home for less than two years, you could be subject to a capital gains tax which eats up a lot of profit.”
Earl White, vice president of House Heroes Realty, a licensed real estate brokerage, agrees that it’s better to buy a home when you’re settled in an area. “If you need to re-sell in a short period of time, you double up the transaction costs,” says White. And if you can’t sell right away, you could get stuck with a house and associated ongoing debt payments, taxes, insurance, and utilities.
You may not be ready to buy if…
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