Preparing for a home purchase

Getting your finances in order

Lenders focus on these factors when considering you for a loan:

1. Your income
2. Your savings
3. How much debt you already have
4. Your credit history

Lenders analyze these factors to assess your ability to pay back the loan. You can improve your chances of convincing a lender you are a good risk by doing the following:

If you expect to receive a raise this year, delay purchasing a home until you receive it.

Persuade your employer to increase your salary in exchange for decreasing your bonus or profit sharing. Lenders weigh salary more heavily than bonuses and profit sharing.

Consider moving to a higher paying position at a different company. * If your spouse is unemployed or in school, wait until your spouse finds a job.

Increase Savings
Reduce your expenses. Defer major purchases. Do a monthly budget and stick to it. It trains you to save regularly. A good software package can help you develop a budget.

Reduce Debt

Build a Good Credit History
Make all loan and credit card payments on time. Keep careful track of your checking account balance so you don't bounce a check accidentally.File all local, state and federal tax forms and pay all applicable taxes on time. Correct any credit problems. (See Reviewing Your Credit History)

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Assembling your financial information

Your lender will ask for the following documents. Have them ready. This information will also help you decide how much you can afford to spend on a home.

1. Tax returns for the last two years.
2. W-2's for the last two years.
3. A list of your employers' names, addresses, and phone numbers for the last two years.
4. Paycheck stubs for the last 30 days.
5. Three months worth of statements for all asset accounts (checking, savings, IRA, etc.) with account numbers and balances
6. A list of all outstanding debts (credit cards, student loans, etc.) with current balances and payment amounts.
7. Verification of child support or alimony payments for the last 12 months, if applicable.

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Preview your credit history

You should order your credit report before you apply for a loan. This allows you to review it and resolve any problems that may interfere with loan approval.

The Fair Credit Reporting Act entitles you to obtain copies of your credit history. There are three major credit reporting agencies. You can order a report from any of the three by calling the toll free numbers and following the instructions.

TRW
P.O. Box 2350
Chatsworth, CA 91313-2350
Tel: (800) 392-1122

EQUIFAX
P.O. Box 105873
Atlanta, GA 30348
Tel: (800) 685-1111

TRANSUNION
P.O. Box 390
Springfield, PA 19064
Tel: (800) 851-2674

TRW offers one free report per year. The other agencies have a nominal charge. When lenders or other businesses extend you a loan or line of credit, they inform one or more of the large credit reporting agencies. If you make late payments, bounce a check or default on a loan, the affected business also notifies these agencies. This information forms your credit record.

When you apply for a mortgage, the lender accesses your credit report to determine how likely you are to repay the loan. If the report shows you are carrying debt out of proportion to your income or that you are consistently late in your payments, the lender will probably consider you a poor risk.

Correcting Your Credit Report
If you discover errors in your credit report, you should correct them before applying for a loan. Contact each business that made an inaccurate entry and ask them to retract it. If they refuse, contact the credit reporting agency or agencies and tell them that you dispute the entry. By law, the credit reporting agency must include your objection in the credit report. If you find many serious errors or encounter difficulty in rectifying them, you should consider hiring an attorney to help you.

Improving Your Credit Record
If your report is accurate and shows you to be unreliable in your financial dealings, you must change your habits to have any hope of securing a loan. Pay any past due accounts immediately. Establish a good credit record by paying all your bills on time.Your credit report covers the past seven years. It's up to the lender to decide if you've reformed.

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Determine your price range

How Much Can You Afford?
Before you begin looking at homes, you need to find out how much you can spend. This calculator helps you estimate this figure. The financial documents you have assembled will provide the data you need.

How much can I afford? calculator

First you should decide how much of your cash you want to earmark for the upfront expenses incurred in purchasing a home. Keep in mind that you will need a significant chunk of cash to cover closing costs in addition to a down payment. You may not want to use all your available cash but hold some in reserve for other priorities.

Then, you should consider what percentage of your income you can spend each month on mortgage payments, property tax and insurance, collectively referred to as PITI. Lending institutions have recommended guidelines (generally 28% to 36% of gross income), but you may decide to allot less to housing to preserve certain aspects of your life style, such as travel or season tickets to sporting events.

You can figure out your price range by entering the amount of cash you wish to contribute,the percentage of your income allotted to housing costs and the other variables listed below into the calculator and letting it compute the maximum home price.The following factors determine how much you can offer for a house:

Gross income: salary, bonuses, interest income, social security benefits, alimony and child support, and any other source of income you would report on your tax return.

Monthly debts: regular monthly payments such as car loan, student loan, alimony and child support, and any required payments on outstanding credit card balances.

Available cash: checking, savings, money market funds, mutual funds, and other investments you can liquidate within a few days

Interest rates: lower interest rates mean smaller monthly payments, which could help you qualify for a larger mortgage. These rates are advertised in the real estate sections of most major newspapers.

Type of mortgage: whether you get a fixed rate mortgage or adjustable rate mortgage (ARM) may affect how large a mortgage you can afford. Refer to Choosing a Loan Type for more information on your loan options.
Loan term: a longer repayment period means your monthly payments are lower but your overall interest costs are higher.

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Prequalifications

Many lenders will indicate they are likely to give home buyers a loan up to a certain amount before they have found a home. This is called prequalification. It gives you an edge over buyers who are not prequalified.

The Benefits of Prequalifying
The lender gives you a written document stating the amount of the loan. This signals that you are financially capable of buying a home in a given price range. It assures the real estate agent you are serious and worth his or her time. Sellers prefer pre-qualified buyers because the loan process goes faster, bringing the sale to a quicker close. In a bidding war for an attractive property, prequalifying can make the difference.

The Basis of Prequalification
Lenders look at two figures to determine your prequalification amount:
Front Ratio: The percentage of your gross monthly income (i.e. before social security,taxes, etc. are deducted) that will go towards monthly housing costs (mortgage payments,property taxes and insurance, often referred to as PITI). The precise ratio that a lender will use varies from region to region and from one loan program to another, but usually falls between 28% and 36%.

Back Ratio: The percentage of your gross monthly income that will be used to pay your combined monthly housing costs and regular monthly payments (car and student loans,required credit card payments, alimony, etc.) Again, the precise ratio will vary from one lender to another but typically lies between 32% and 45%.

How to Prequalify
Ask the lending institutions in your area what Front and Back Ratios they use. If the prevailing proportions in your area are too high for your comfort, adjust them downward. Your local lender may allow you to spend 33% of your monthly income on housing costs, but you may decide to devote some of that money to other items. Using the How Much Can You Afford? worksheet, plug in the desired Front and Back Ratios and other financial variables described in Determining Your Price Range to compute the amount of the loan for which you can qualify. Print out your worksheet and take a copy to your lender. It contains all of the information most lenders require.

How much can I borrow? calculator

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The agent's role

Seller Agency
The most common arrangement is for an agent to represent the seller. The agent works on behalf of the seller to market the property, and the seller compensates the agent in the form of a commission. The rate in most states is typically 6% of the sales price of the home. In this situation, the agent's fiduciary responsibilities are to the seller. The agent's obligations to you (as a buyer) are honesty and disclosure of material facts. A material fact is anything that may affect your decision to buy or the price you would pay for a house. Examples include changes in property zoning or new developments that may alter property values, improvements which are not up to code, severe structural defects, and location in a flood-prone area. Failure to reveal this information is unethical and, in some states, illegal.

Buyer Agency
An agent who represents the buyer exclusively is known as a buyer's agent. In this situation,the agent's fiduciary responsibilities are to you as the buyer. Typically, the agent's compensation is a portion of the commission paid by the seller. However, some buyer's agents charge a fixed fee for their services.
If you choose to work with a buyer's agent, you should expect the agent to:

• Develop a list of homes which meet your specifications and price range.
• Provide detailed printouts of information about those homes.
• Act as an additional pair of eyes and ears in visiting homes, calling attention to pros and cons which may not have occurred to you.
• Perform a comparative market analysis.
• Help you evaluate financing options.
• Negotiate on your behalf to obtain the best possible deal.
• Recommend other trustworthy professionals such as lenders, mortgage brokers, escrow companies and property inspectors.

There are several types of buyer agency contracts. If you sign up for exclusive representation, you owe the agent a fee even if you end up buying a home that you located through another source. Alternatively, some contracts allow you to freelance, requiring payment only if you purchase a home located by the agent.

Dual Agency
Because agents actually work under a broker, it is possible for a single broker to represent both the buyer and seller. Most states allow dual agency as long as both parties give their informed consent. However, common law and state administrative rules usually favor single agency representation.

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Choosing an agent

You should look for an agent who has in-depth knowledge of the neighborhood or area that interests you. Names of prospective agents are available from several sources:

Word of Mouth: Talk to friends, relatives and co-workers who have purchased a home recently. If they were happy with their agent, get the name and phone number. If that agent doesn't work in your desired area, he or she might recommend someone who does.

Local "for sale" signs: Drive through the area where you want to buy and note the agencies and agents most active there.

Yellow pages: Make some calls to local real estate agencies. If you have never purchased a home, ask if the office has agents who specialize in working with first-time buyers and speak with them directly.

Open houses: These provide an opportunity to meet and talk freely with agents.

The Buyer's Brokerage Registry: This annual publication lists experienced buyer brokers and can be ordered by calling (805) 485-7080. It costs $25 plus postage and handling. You may also find it at your public library.

Interviewing Agents
Once you have a list of prospective agents, meet with each one in person. During the interview, you should assess their knowledge and willingness to help, then decide if you feel comfortable with them.

Ask questions such as:
• Are you a member of the National Association of Realtors (NAR)? (Membership is one indicator of honesty and professionalism.)
• What is the average home sale price in the desired area?
• What are the advantages and disadvantages of living in that area?
• What are the best financing programs currently available?
• Can you recommend a good mortgage broker, property inspect or title company?

Ask for the names and phone numbers of home buyers who have worked with the agent recently. Call them as references. If you are a first-time buyer, tell the prospective agent.

If you have completed the How much can I afford? calculations, show a copy to him or her. This will demonstrate that you are serious, and will test the agent's ability to advise you.When you find an agent who meets your criteria, make an agreement, either verbal or written, to establish the relationship.

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