How to Financially Plan for Your First Home Purchase

how to financially plan

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How to financially plan for your first home purchase?  It’s the most common & important question to every home purchaser. The purchase of a home is likely the largest purchase you will ever make, so it makes sense to take some time to understand the process and what you can do to prepare for it financially. This home purchase guide explains the basics of how to financially plan for your first home purchase in five easy steps.

When it comes to how to financially plan or purchase a new home, there is one thing that everyone can agree on; A homebuyer should never purchase more “house” than they can afford. As we have repeatedly mentioned here at Educounting.com, budgeting is crucial in the areas of financial planning for any major purchase, and buying a home is no exception. However, the waters get muddy as we delve into what constitutes an “affordable” home.

Finding that affordability sweet spot will require more than just a mortgage lender’s pre-approval. The median sale price of new homes sold in April 2022 was $450,600. What might be affordable for some may not be affordable for others. Regardless, for most Americans buying a new home will likely represent one of the most significant purchases they will make in their lifetime.

It is on of the common home buying mistakes for first-time homebuyers to make when buying a home or shopping for homes based on how much money a mortgage lender is willing to give them while failing to consider other expenses in purchasing a new home. Often, this approach sets the homebuyer up for financial hardship and can put them at risk for a potential foreclosure if the monthly mortgage payment on their homes becomes unmanageable.

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5 Steps of How To Financially Plan for Your First Home Purchase

Purchasing your first home is a huge achievement, both financially and emotionally. But it can also be a bit overwhelming, especially if you don’t have all the information you need to make informed decisions.

Here are five steps to help how to financially plan for your first home purchase:

Step 1 # How Much Can You Afford?

how to financially plan

The first step of how to financially plan for home buying process is determining how much you can afford. The Federal Deposit Insurance Corporation (FDIC) suggests that you multiply your household income by two or three when estimating a mortgage. So, if your annual income is $100,000, you could afford a home that costs between $200,000 and $300,000.

Use the 28% Rule to Get Started

According to most experts, the easiest and most effective way to determine your buying first home budget is to use what is known as “the 28% rule.” This is the common “rule of thumb” for how much an individual can spend on their monthly mortgage payment.

The 28% rule states that your monthly home mortgage payment should not exceed 28% of your monthly gross income. The Federal Housing Administration (FHA) tends to be more generous, using a 31% rule, allowing consumers to use 31% of gross income on mortgage payments.

However, many potential homebuyers need to consider their other debts, which are crucial to determining how much they can genuinely afford. In other words, even if you follow the 28% rule, you can still find yourself in hot water, unable to afford your monthly mortgage payment.

Before lending you money to buy a home, a mortgage lender will look at your debt-to-income ratio. If your estimated monthly mortgage payment is, for example, $1,000 per month, and the total of all other expenses is also $1,000 a month, your monthly financial obligation is $2,000. If your gross monthly income is $6,000, the debt-to-income ratio is 33%, which might be too high. Generally speaking: 43% is the greatest debt-to-income ratio a qualified mortgage lender will allow. 

Are you having trouble saving money? Here’s a video we made on getting money motivated and making the right money decisions.

Step 2 # Consider the Expenses of Buying a Home Beyond Your Mortgage Payment

Home loan pre-approval is an essential early step in purchasing a home. However, it is just one of many considerations moving forward. A mortgage payment certainly isn’t going to be your only recurring expense. There are many ongoing costs associated with homeownership that buyers must anticipate before taking the plunge.

buying house costs

Homeowners Association Fees (HOA)

If you’re planning to purchase a condo, townhouse, or home in a planned development, it is important to know the existence of Homeowners Association Fees (HOA). HOA fees are monthly, or annual charges assessed by the homeowners association and are typically used to maintain common areas and amenities.

Utilities

Consider the cost of gas, water, electricity, trash service, and internet/cable. You can get an estimate from the current homeowner or your real estate agent. If not, you can always call the utility companies directly and ask for an estimate.

Home Maintenance Costs

Having money aside for routine maintenance and repairs and any unexpected issues that may arise is important. Experts typically recommend setting aside 1-2% of your home’s purchase price annually for maintenance and repair costs.

Furniture and Appliances

On average, households spend $2,346 annually on furniture, appliances (big and small), textiles, and floor coverings–that comes up to about $196 per month. Moving into a new place is an exciting but often expensive part. Make sure to factor these costs into your budget.

Step 3 # Down Payments Should Dictate Your Purchase

what is a minimum down payment on a house

A mortgage lender typically expects the homebuyer to pay at least 20% of the home’s purchase price in cash. In situations where the homebuyer cannot make a 20% down payment, they may still be able to secure a mortgage but will have the added expense of paying for private mortgage insurance (PMI), thus increasing the amount of their mortgage payment. PMI can increase a loan amount by as much as one percent.

The cost of your PMI will depend on your home size, personal credit history, and potential property appreciation. The higher your down payment, the less you’ll pay in interest over the life of your loan, and the lower your monthly payment will be. Even if you can’t swing a $60,000 down payment on a $300,000 home, buyers should aim for 10% at the very least.

Your down payment will often depend on several factors, including the seller’s willingness to accept. Conventional mortgages typically call for 20% of the sale price as a down payment. FHA home loans expect a buyer to spend 3.5% of the home’s sale price as a down payment.

The amount of money you save for the down payment on your new home should also influence your choice in which home you purchase and how to financially plan. For example, if you are trying to decide between two houses and the money you’ve saved represents a 20% payment on one house and 10% on another, it’s obvious that the cheaper option will get you more of a bang for your buck in the long run.

As a potential homebuyer, you will need to put aside money to cover your closing costs, which may cost between 2% and 5% of the total purchase price. When you purchase a home for $200,000, you can expect to pay $4,000 to $10,000 in overall closing costs.

Step 4 # How Much Can You Handle?

how to financially plan

In determining a home’s affordability, you’ll want to consider the property’s size and condition. A large house isn’t always a good choice, particularly if heating and cooling costs can hurt your budget. Similarly, the small cottage atop a steep picturesque hill might be your dream home, but managing snow removal on a long, steep driveway may become costly. Along these lines, that affordable, historic 3,500-square-foot fixer-upper might seem like a great deal until you see how much the renovation will cost.

Always investigate utility costs on every property that you consider buying, and be sure to have a trusted construction professional estimate the cost of any repairs that might be needed. Anyone planning to renovate or repair the homes on their own should be realistic about their time constraints and skills. Quite often, homeowners will bite off more than they can chew on a home improvement project, and mistakes in the home buying process can cost more money in the long run.

Step 5 # Learn How To Save and Budget for Your First Home

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In the case of how to financially plan for a first home purchase, Saving for a down payment on your first home requires discipline, but some helpful tips can make the process easier.

  • One way to accelerate the savings process is to set up a dedicated account for your down payment fund and make regular deposits. If you have difficulty saving money, consider opening up a high-yield savings account, which typically offers higher interest rates than standard savings accounts and can help you make your money work harder for you.
  • Save up for your dream home by evaluating your budget and seeing where you can cut back on expenses. Also, set aside money for unanticipated costs that may pop up.
  • If you’re looking for help with your down payment or closing costs, check out programs offered by NPOs and government agencies. These organizations offer a variety of assistance programs for first-time homebuyers.

Frequently Asked Questions (FAQs)

How can I lower my housing costs?

There are several ways to lower your housing costs. One way is to find a home with low utility costs. You can also look for homes in areas with low property taxes. If you believe your property tax assessment is too expensive, appeal it to your local tax authority to save money.

Is renting a home more expensive than buying one?

The cost of renting vs. buying a home depends on several factors, including the location, the type of housing, the length of time you plan to stay in the home, your fin plan, and your financial situation. The price-to-rent ratio is one way to estimate whether to rent or buy in a given area.

What is the best way to save for a down payment on a house?

There are several ways to save for a down payment on a house. One way is to set up a dedicated savings account for your down payment fund and make regular deposits. Another way to save is to cut back on expenses to put more money towards a down payment. You can also look into programs offered by NPOs and government agencies that offer assistance to first-time homebuyers.

How do I calculate my monthly mortgage payment?

To calculate your monthly mortgage payment, you need to know the amount of the loan, the interest rate, and the term of the loan. You can use an online mortgage calculator to estimate your monthly payment.

how to financially plan

How to Financially Plan for Your First Home Purchase: Final Words

How to financially plan while purchasing your first home is a major financial decision, and it’s important to do your homework before taking the plunge. Be sure to consult with a variety of experts, including a real estate agent, a mortgage lender, and a family financial advisor, to get all the information you need to make an informed decision.

When you’re ready to start house hunting, be realistic about your budget and what you can afford. Don’t forget to factor in the cost of repairs and renovations, as well as the ongoing costs of owning a home, such as property taxes, insurance, and utilities.

You can confidently enter the exciting home ownership world with a careful financial planning diagram and preparation.

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