By Scott Sheldon
Buying a home is still considered to be a lifetime accomplishment. How much cash you're going to need upfront to do so is another story entirely. The funds needed to close the sale play an enormous role in your ability to get a home loan. If you're serious about buying a home or will be in the future, how much of your income you should be saving to realistically seal the deal?
Short-Term Plan: Lenders look at your pretax income when determining how to qualify you for a mortgage loan. As a would-be homebuyer, you should plan on doing the same, using a percentage of your gross income for determining how much to save. Saving 20 percent of your income could catapult you into purchasing a home in the next 12 to 16 months, depending on your market. For example, if you're earning $96,000 per year, that's $19,200 saved after one year. $28,800 saved after a year and six months, which can be plenty of funds to make home-ownership a reality.
Longer Term Plan: At least 10 percent of your pretax income is a great place to start planning for future home-ownership. Using the same example of $96,000 of income, that's $9,600 per year allocated for home savings. It would only take an extra year to come up with the same type of cash in the short-term plan's one-year goal.
Taking a percentage of your income is certainly no easy task. It requires diligence, attention to detail and financial discipline to consistently put that money in the bank despite other debts and household expenses.
Income Sources to Supplement Your Home Buying Plan: While the following are potential sources for a down payment, make sure you consult with a financial adviser before you tap into your nest egg to make sure it's the best move for your needs. With that said, here are the options:
• 401(k)s -- If you have an employer match a percentage of your monthly contribution, this can aid you in purchasing a home faster, as the majority of 401(k) accounts have the ability to borrow for buying a home as a first-time buyer. For example, if you are receiving a 50 percent match of your monthly contributions your 401(k), you can kick-start the time it takes you to save the cash.
• IRA -- These accounts grow with the market and have the same concept as the 401(k), although without the matching. Such an account is a great place to accumulate money in an interest-bearing account that has provisions to purchase a first home.
• CDs and money market accounts -- These accounts also are a source to help you generate additional funds to save in addition to your monthly savings contribution. You can even set up electronic funds transfers from your paycheck to funnel into these other banking sources in the event saving that money on your own becomes too difficult.
It All Comes Down to Your Home Price: When you buy a home for the first time, there's the down payment, which is the difference between the purchase price and the loan amount. And then there are closing costs. Those two costs will equal the total cash needed to close. Closing costs are roughly 2-2.25 percent of the purchase price. So if you're looking at a home for $500,000, plan on closing costs to be around $10,000. How much down payment is needed will vary, depending on the loan program.
Down Payment Requirements for Loans: How much cash you will need to purchase a house is dependent on the loan program, purchase price range and certainly your market area.
• Conventional financing – Needs a minimum down payment of 5 percent (varies on maximum loan size in your area).
• FHA financing -- Needs a minimum down payment of 3.5 percent.
• USDA financing -- Needs no down payment.
• VA financing -- Needs no down payment.
• Home Path Financing -- Needs 3 percent down payment.
How to Determine Your Costs: Let's look at a home priced at $500,000. Given certain criteria, $27,500 is what it would take to close the deal. Here's the math:
• $500,000 purchase price.
• $10,000 closing costs (at 2-2.25 percent of the purchase price).
• $17,500 (a 3.5 percent FHA down payment).
• Giving you a total cash payment of $27,500 needed.
Mortgage Tips: Remember as you are diligently saving a portion of your income to make that home purchase happen: A lower down payment and lower total cash to close means a higher monthly mortgage payment. Conversely, a larger down payment gives you a lower mortgage payment. Also, the percentage of mortgage insurance lowers if a buyer uses more equity.
If you have been diligently saving for a house, and still have not been able to purchase a property and are diligently saving your money, talk to a lender about getting pre-approved. Perhaps it's time to reevaluate how much percentage of your income is going to saving versus what homes are like in your area.
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