Covid-19, as we’ve pointed out in previous columns, is a trend accelerator. When it comes to buying a home, covid-19 has been the best of times (lowest mortgage rates in history during 2020 and part of 2021) and worst of times (home prices are skyrocketing).
What does it mean for you? There will continue to be a shortage of homes to buy, and they’re going to be even less affordable than they are now. What can you do if buying a home is on your bucket list? Consider these tips:
1. Know what you can afford.
The problem with viewing beautiful homes for sale online or on television, is that it shapes what you want in a home. You can imagine yourself sitting on a beautiful white couch in front of a roaring fireplace, your marble-topped kitchen island in the background.
There’s nothing wrong with that vision, other than you may not be able to afford it. And with interest rates likely to rise this year, it’s more important than ever to know exactly what you can afford to spend on your dream home.
Start with the four key components of affordability: How much you have saved for a down payment; how much your household earns; what debt you carry; and your credit score. Your credit score will directly affect the interest rate on the loan, which has a multiplier effect on how much you can borrow. Your debt service (how much you pay each month) will be subtracted from the total amount you can spend on your mortgage, taxes and homeowners insurance.
Once you have a handle on these four components, it’s time to get preapproved for your loan.
2. Get preapproved for your mortgage.
When you get preapproved, your lender agrees in writing to fund your loan, provided the home you choose appraises out in value. Getting preapproved allows you to know precisely how much mortgage you can carry because the lender will take into account your debt payments, income and credit score. Once you have this number, you’ll add the amount you have available for a down payment to come up with the approximate purchase price. (Don’t forget to set aside the few months of cash reserves the lender will require.)
One thing to remember is that a preapproval letter from a lender is not the same thing as getting prequalified for your loan. A true preapproval letter means a lender has reviewed your credit, undertaken a review of your file and decided it will fund your loan. A prequalification letter is when a lender lets you know that, based on the unverified information the lender has from you, the lender believes you are qualified for a certain loan amount. Some lenders will give you a preapproval letter, but it includes so many qualifications, it really doesn’t amount to a true preapproval.)
3. Decide what trade-offs you’re willing to make.
Of course, you won’t be able to afford everything on your wish list. So, make two lists: everything you want in a home and everything you can’t live without. In her book “100 Questions Every First-Time Home Buyer Should Ask,” Ilyce calls this the “Reality Check.”
Building these two lists will help you understand what trade-offs you’re willing to make to get most of what you want. Think through these lists carefully, because each choice and the prioritization you afford it, has real-world consequences. In the book, Ilyce recounts how we traded off a parking space for a wood-burning fireplace — and what a mistake that was when we got our first car.
4. Explore other ways to buy your first piece of real estate.
If you want to be a home buyer but can’t afford to buy a single-family house in your neighborhood of choice, get creative:
- Consider buying a two- or three-family unit property, where you live in one unit and rent out the others;
- Buy with a partner or friend (be sure to sign a partnership agreement if you’re unmarried);
- Build a multigeneration household to leverage additional income (another growing trend);
- Buy an investment property while you rent to others (perhaps you can move into it later);
- Or buy a home in a vacation area you frequent. With the way covid-19 is going, remote work is growing in popularity.
5. Get smart about the process.
Put together your home-buying team, including an experienced traditional real estate agent or exclusive buyer agent, professional home inspector and mortgage lender; if you’re buying investment property, add a tax expert and a real estate attorney, where real estate attorneys are customarily used. All of these professionals should willingly and kindly share their knowledge and expertise. If not, find someone else.
Given that almost all residential real estate markets will stay tilted toward sellers for the foreseeable future, you’ll need to be as smart as you can to find a home you can love.
To that end, be sure to educate yourself: Read, ask questions and challenge your own assumptions. And remember, the homes you tour probably won’t look as good as the ones you see on TV, so don’t be discouraged.
Once you close on a home, you can spend the rest of your life redecorating it to your heart’s content.
Next up: Tips for home sellers.
Ilyce Glink is the author of “100 Questions Every First-Time Home Buyer Should Ask” (Fourth Edition). She is also the CEO of Best Money Moves, an app that employers provide to employees to measure and dial down financial stress. Samuel J. Tamkin is a Chicago-based real estate attorney. Contact them through her website, bestmoneymoves.com.