Sunday, September 13, 2009

The art of buying a house- it is all in the preparation!

A lot of people have asked me for advice on how they could buy a house..seems like a popular thing to do. What confuses me is when I ask them some questions, they don't really know the answer and that tells me they to get more prepared.
Before buying a house you have to do some work in the following areas:
1. Finances (duh!)
2. Area research
3. House Condition
4. Mental preparation

Let's start with the basics... before I bought this house in June 2009, I was actually working towards it in late 2007/early 2008. Does that sound crazy? Not really if you understand my thought process and the steps I took to be able to buy a 2nd house if I found the right one. Here is what I did financially although these steps would not necessarily apply to everyone, the basics are the same.

Step#1 - LOWERING MY MONTHLY EXPENSES
I refinanced my current house in early 2008 in preparation to buy a 2nd home. My Moraga house was bought with a conventional loan at a very low interest rate in 2004. I put 20% down when I bought it and my equity had gone up by approximately 15% to 25% more by 2008. But the monthly payments were higher than I could manage if I bought another house so I refinanced into an interest only loan at 5% interest and that lowered my payments by about $400/month. This is not something that everyone should do because there is risk involved but it worked for me. Other things were looking at the recurring monthly bills that I could eliminate like permit parking at BART...and Nick's online games.. these recurring subscriptions that are automatically billed are so easy to ignore. These cuts saved another $100 per month.

Step#2-  BANKING CASH
Every time I sold stock I would put it in an Etrade account so that I would have "cash on hand" to show a potential bank. Banks these days want to see cash reserves to make them feel okay if you lost your job or anything else bad happened. It also shows that you are good enough with your finances to not spend every dime you bring home. It is hard to say what is a good amount to have minimally, you have to have enough to cover the down payment. (This is not to say you will use the money that way, but you need to have it.) If you don't have enough cash in a traditional liquid account, banks will also take into consideration your retirement savings. By adding to your 401k account, besides it being essential to retiring, it could be helpful in buying a house. Automatic deductions are the best way to save... if money goes into my checking account it seems impossible for me to not spend it. Set up automatic deductions through work and make sure the account the money is going to, is not one tied to your everyday checking account.

Step#3 - FINDING MORE FINANCING
I got my HELOC increased in late 2008 anticipating that I would use it to either buy a house for cash or for the down payment. 6 months after I refinanced my primary home loan I went to my bank and got them to increase my HELOC to the max they would loan me. This gave me the money for a down payment for the new house. Timing is critical on these things too. I did things in a very methodical order so as not to give the bank the impression that I might be desperate for cash. The patience you learn here, will pay off later when you need to get that new house financed!

Step#4- KNOW YOUR CREDIT SCORE
With all this bank stuff going on, I knew what my credit score was within 10 points. THIS IS VERY IMPORTANT - especially these days where money is tight that you know what your score is before you call to apply for a loan. Traditional banks don't want to talk to you unless you at least 720 on your FICO score and the higher the better. To keep that up, I kept my credit cards low and made sure to always pay more than I needed to on my loans. My score was high enough to get the bank to pay attention when I called and they always gave me better service (and better rates) than folks who they knew would take a lot of work to get into a loan. Is it fair to base your loan on your FICO score? Probably not. But that is how it works so if your score is lower than 720, get a copy of your credit report and start paying those bills down.
When I went to buy a house the very 1st time, I was shocked to learn that my credit score was really low. Those of you with spouses, or in my case "ex-spouse" need to be aware that credit information is shared. My ex-husband had a credit card that he defaulted on that was not in my name but was on my report. You have to get that stuff off your report right away. I wrote a letter to all 3 reporting agencies to let them know that this was not my account and they needed to remove it. They investigated and removed it and that made a difference. Before applying for a home loan, get your credit report and make sure you know what is in it.
The other shocking thing about your credit score is that goes lower if you don't have enough credit. I had to apply for a credit card and start using it to get my score up back when I bought my first house. I don't recommend store cards or gas cards, just the normal visa and mastercard. I have 3 cards and use 2 of them and never get to more than 25% of my limit and usually I am a lot lower. I feel like 3 cards is the right number and although I don't use one except a couple of times a year to keep it active, I will not close any accounts either. You have to have the right balance of credit that you can use (high limit) and credit you are using (average balance). I don't know exactly where that balance is but I would say if you are looking to get financing for a house, stay below 30%. Before you go to apply for a home loan, pay off your credit cards as much as possible. I got 2 cards to zero balances and the other to just a couple of hundred dollars for the 2 months before I applied for the loan. This is hard to do! But it is worth the effort!

Last Step - KNOW WHAT YOU CAN AFFORD
This sounds silly but it is to keep you out of trouble in the future. For me I knew that I didn't want my mortage on my 2nd house to be more $1000/month and preferrably around $700/month. By using the mortgage calculators on Yahoo and even bank websites you can see the price range of house you should be looking based on what you can afford monthly.
Don't let the amount the bank will loan you become your montly payment by default. Figure it out yourself.. look at all your expenses and what your NET income and see what you have left. If the amount isn't enough to buy the house of your dreams, you have a couple of options:

1. Look at your expenses to see where you can cut back more. You need the basics but basics are different from person to person. I have to have high speed internet and it is costly. But I work from home 1 day a week and can't function without it.

2. Take a bit longer and stash more cash for a bigger downpayment. If you really want to get a house and you can't afford the monthly payment, you can increase your downpayment. No one says you can only put down 20%, if it takes 5% more to get a comfortable monthly payment, take the time to do it.

3. Change your idea of a dream house to something more modest. When I moved to Moraga I was set on buying a single family home. (SFR) But after looking at at least 70 houses and losing bids over and over I started to become more open towards buying a townhouse. It had to have 2 car garage and at least some kind of yard.. that I wouldn't compromise. Once I opened up to that idea I found my current house and was able to buy it and afford it. Sometimes we let society, friends and family dictate more than we think we do. We set our hearts on that SFR with 4 bedrooms and a massive backyard... but is that what you need? Look at the bare minimum of what you need and work up from there. I had to have 2 bedrooms and 2 baths along with the garage and yard. That was the minimum and once I let go of the SFR idea, I found a lot more options available.
Know what you can afford monthly and still eat! Don't let anyone persuade you to over extend yourself financially or the long-term results will be bad.

That's enough for now... Finances are not scary if you attack them a little at a time...

julie