Basics Every New Home Buyer Should Know

Basics Every New Home Buyer Should Know

 

It may not be as easy to purchase a new home in today’s real estate market.  I teach real estate courses, I have a real estate license, and I spent years working in the lending industry.  Because of that, people often ask me about what a home buyer should know about the process.

When I was a loan officer, the market was considerably better.  First time home buyers had more options.  Currently banks are hesitant to lend and buyers need to come up with more funds on their own.  In the past, it wasn’t unusual for banks to lend at least 95% of the cost of the home. Now it isn’t unusual for banks to only cover 80% of the cost.  FHA loans offer higher percentages but the amount you can borrow is limited.

Getting the Loan

As a loan officer, I did a lot of first time home buyer seminars.  At those seminars, people had a lot of questions about the home-buying process.  A big part of what they wanted to know was how their credit score affected their ability to get a loan.

A person’s credit score is extremely important in the loan process.  The score alone does not dictate whether you will get the loan, but it is a big piece of the puzzle.  Banks will also look at your work history, income and how much money you have for the down payment.

If you have a poor credit history, it doesn’t mean that will hurt you forever.  As time goes by, your poor credit history fades if you do the right things and is replaced with good payment history.  Your credit score should not vary that much from month to month.  However, if you have had late house payments in the past or a bankruptcy, it can drop your score more quickly than other things.  Improving your score takes longer than hurting your score.  It isn’t common under normal circumstances for a score to change 20 points in a few months’ time.

That is why it is important to periodically check your credit report and contact the credit agencies if there is incorrect information on it.  There are three main credit agencies:  Equifax, Experian and Transunion.

If you report an error to these agencies, they must investigate it and respond to you within 30 days.  Sometimes certain information will show up on one agency report and not on another.  In order to get information removed from all of them, you need to contact all of them.  Don’t assume that because you take care of contacting one agency, that the others will be corrected automatically.

Your score is sometimes referred to as a FICO score, which stands for Fair Isaac and Co., the software company that developed the score.  In order to have a FICO score, you must have at least one account that has been open for 6 months or longer.  Also, there has to be one account that has been updated in the past 6 months.  The higher your score, the better risk you are and the more likely a bank will lend you money.

There are 5 main categories of information that are taken into account in determining your FICO score:

•           Payment history accounts for about 35 percent of the score.  Do you pay your bills on time?  Are there any collections or bankruptcies? Bankruptcies will stay on a report for seven to ten years, depending on the type.

•           Amounts owed accounts for about 30% of the score.  How much do you pay on your accounts? How high of a balance do you have?  How much of the credit granted do you actually taken advantage of?

•           Length of credit history accounts for about 15%. How long have your credit accounts been established?

•           New credit accounts for about 10%.  How many recent requests for credit do you have?

•           Type of credit accounts for 10%.  What kind of credit mix do you have?  Do you have credit cards, retail cards, mortgages, etc?  You don’t have to have all types, and it isn’t a good idea to have accounts that you don’t use.  However, it is worse to close an account that you don’t use than to leave it.

Here are some tips you can use to raise your credit score:

•           Pay on time.

•           If you missed payments, get current.

•           Paying off a collection doesn’t remove it from your report, though it does improve your score.

•           Contact creditors if you are having trouble making payments to see if they can help you.

•           Don’t maximize how much you take out on your accounts. Keep balances as low as possible.

•           Don’t move debt around unless it means you’ll be getting a lower interest rate. You still owe the same amount of money.

•           Don’t think closing unused cards will raise your score.

•           Don’t open a lot of cards just to have available credit.

•           Don’t open too many new accounts too quickly.

•           If you have had problems, re-establish new credit history.

•           Check out your credit score from time to time.

•           Only get new credit cards as needed.

•           Manage the cards you have responsibly.

•           A closed account will still show up on your credit report.

When people came to me to apply for a loan, I would ask them if I could run their credit.  That is what you can expect a loan officer to do as well.  They have to know what your credit is in order to know if you will qualify for the loan.  Although many people are worried that their credit will affect their credit score, one inquiry will take less than 5 points off of their score.  Rate-sopping can cause multiple requests on a report, but as long as the inquiries are within a 14-da6 period, it will only count as one inquiry as far as points taken off.  Also the score ignores all inquiries made during the 30 days prior to scoring, so if you find a loan within 30 days, those inquiries will not affect your score while you are shopping.

What is a good score?  Traditionally lenders usually liked to see at least 620 to get better rates.  Scores over 700 sometimes can get even better rates.  If your score was under 620, you could still get a loan, but you would pay a higher interest rate.  The numbers change as programs change, but it is a good idea to try and keep scores as high as possible.

Once you get into a house and have house payments to make, whatever you do, do not be late on it.  That is one of the worst things you can do to your credit.  Should you be late with a house payment, the next time you go for a home loan, the bank is less likely to forget that tardiness than a late credit card payment.  Having one late house payment in the last 12 months prior to applying for a home loan can severely affect your ability to qualify for a home loan.  If you have a 30 day late payment in the last year, you will have to pay a higher interest rate on your new loan, which could cost you many thousands of dollars.  Many lenders offer automatic withdrawal from your checking account.  If you have problems remembering to pay your payments, I highly recommend calling your bank and signing up for that service.

Finding the Agent

The first part of the home-buying process is actually getting pre-approved for the home loan.  It is only after you have received that, that you can actually start looking for a home.  If you don’t have a real estate agent, you might ask your lender to recommend someone.

Another good place to find an agent is by asking friends and family.  If they haven’t really had a chance to use anyone yet, you might drive through neighborhoods where you are interested in buying and see if there are any signs up of agents in the area.  If you see several signs with a certain agents name on it, it probably means they know the area well and may be a good person to contact.

Remember you do not need to stay with a real estate agent or loan officer that you do not like.  You have the right to drop them.  They are working for you and if they make you feel uncomfortable or aren’t responsive, you should exercise your right to pick someone else.

The good news about being the home buyer is that the home seller is the one who pays the real estate agent.  Your agent will receive a commission for helping you but it will not have to come from you.

Protecting Yourself

There are a lot of things you can do to protect yourself in the home-buying process.  Your agent should help you with home inspections and direct you to appropriate insurance agents if you don’t have one.

The Important Things to Remember

Here is the minimum you should know about Home Buying and Renting:

•           If you can afford to buy, there are tax advantages over renting.

•           Understand what constitutes a FICO score.

•           Fix any bad things you have on your FICO score by contacting all 3 credit agencies.

•           Get preapproved for a loan before ever looking at homes.

•           Find a real estate agent through referral or through checking out neighborhoods where you are interested in buying.

•           If you don’t feel comfortable with your agent, get a new one.

•           Remember the home buyer does not have to pay the real estate agent.

•           Protect yourself with home inspections and insurance.

Related Articles:

Defaulting on a Mortgage: How it Affects Your Credit Score

Many consumers have taken a financial hit with the recent economic climate.  As more people are defaulting on their home loans, it is interesting to see the impact on FICO scores. 

What may be a surprise is how many wealthy people with good credit are going into foreclosure.  A recent article by the Arizona Republic mentioned how affluent, savvy homeowners are choosing to default on their home loans based on weighing the pros and cons to such a decision.  “Recent research suggests that affluent people tend to be the main strategic defaulters, and these individuals are also the ones who would sustain more serious credit-score damage.  This chart shows the resulting credit scores for two hypothetical consumers – one with an average initial score of 680 on the FICO scale and another with a high initial score of 780.”

Situation Initial 680 Score Initial 780 Score
     
30 days late on mortgage 600-620 670-690
90 days late on mortgage 600-620 650-670
Short sale, no deficiency 610-630 655-675
Short sale with deficiency or foreclosure 575-595 620-640
Bankruptcy 530-550 540-560

The savvy homeowner that sees their home investment as a money pit, may go ahead and buy what they perceive as a better home  purchase, perhaps a short sale, before they default on their original investment.  In this way, they have good credit to purchase the new home before they take the hit to their credit score caused by the default of their original home purchase.

Top 10 Personal Finance Articles

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I am a contributing writer for investopedia.com.  The following is a list of my top 10 personal finance articles I wrote for that site:
•  Condo Complications: The Issues Behind Ownership  – Being a “condo person” is just one of the issues you’ll have to examine when deciding if a condo is right for you.
•  Improve Your Karma With Microlending  – Not all businesses are self-sustaining – many rely on microlending in order to survive.
•  Things To Know About The Home Modification Plan  – This program allows FHA borrowers to reduce monthly mortgage payments through negotiation with lenders.
•  How Unemployment Affects You (Even If You’re Working)  – Rebounding from a stint of unemployment can be a frustrating thing to do. These tips should soften the blow.
•  Affinity Fraud: No Safety In Numbers  – Ponzi schemes are just one example of this type of scam; learn how to avoid becoming a victim.
•  Bankruptcy Filing Changes That Could Affect You  – When the economy is down, more people file for bankruptcy. Make sure you know about the changes that have been made to this process.
•  Recognize And Avoid “Work At Home” Scams  – From pyramid schemes to envelope stuffing, there are a lot of scams masquerading as legitimate part-time work.
•  Using Age-Based Funds In Your 401(k)  – If you prefer a “hands-off” approach to saving for retirement, target-date funds may be for you.
•  Lending From A Loan Officer’s Perspective  – Learn how a loan officer thinks, so that you can get the best and safest loan.
•  Employee Benefits: How To Know What To Choose  – Starting a new job is stressful but you don’t need to sweat about setting up a benefits package.

Bad Credit Causing More Unemployment

How to Reinvent Your Career by Dr. Diane Hamilton
Think about the person who is trying very hard to find that new job.  They may have missed a few payments due to being out of work.  This has caused their credit to be less than stellar.  If they should find that perfect job, the future employer will run their credit.  If the credit score comes back as low, their chances for getting the job are damaged.  It is a vicious cycle.

Here’s how particular events could affect a person with a 780 credit score and someone with a 680 credit score:

Initial score 780 680
Maxed credit card 735-755 650-670
30-day delinquency 670-690 600-620
Settled a credit card for less than what’s owed 655-675 615-635
Foreclosure 620-640 575-595
Bankruptcy 540-560 530-550

Source: MyFICO.com

The Arizona Republic reported today that The Society of Human Resources Management showed: 60% of employers conducted credit checks on job applicants in 2010.  Of this figure, 47% have done so only for candidates for select jobs and 13% have done so for all job candidates. 

What can you do to avoid having your credit score drop?   Jahna Berry stated the following in today’s Arizona Republic:  “If you’re headed for financial problems, carefully consider how missed mortgage payments, overdue bills or a bankruptcy filing could affect your credit report and your future job prospects, several employment experts said. Seek out help and look for options that will protect your credit.”

New Businesses Not Getting Loan Approval

A survey by the Federal Reserve Bank of New York shows that small businesses in the area are not getting the loans they are applying for this year.  Businessweek.com reported, “Of the 59 percent of businesses responding to the poll that applied for credit in the first half of 2010, only half got any loan approval at all, and three quarters said their full borrowing needs were not met. (The PDF of the report is available here.)”

In the entrepreneurial courses I teach, my students discuss the issues a new start-up must face.  Raising capital may be one of the most difficult hurdles right now.  Part of the problem stems from not having collateral to secure the loans.  If this is the case, it may be possible to obtain a loan through merchant services. Credit cards with cash advances may be an option.   

Articlebase.com suggests there are other things you can do to qualify for a loan.  “First you need to identify which among the many types of small business loans you need. Small business loans ranging from $5,000.00 to $35,000.00 are called micro loans. For larger needs, such as for the acquisition of land, buildings and other major fixed assets, development financing is what you should find. There are also import export loans as well as franchise financing. Do your research to find out if you are qualified for small business loans guaranteed by the U.S. Small Business Administration or SBA.” 

There is some positive news.  According to Finance.yahoo.com, “Federal Reserve Chairman Ben Bernanke said in a speech on Friday that there have been some “positive signs” in the credit conditions for small businesses. “In particular, banks are no longer tightening lending standards and terms and are reportedly becoming more proactive in seeking out creditworthy borrowers,” he said.”