Interested in buying a home but don’t have much saved for a down payment? No matter how much you earn it’s all too easy to spend it little by little throughout the month and be left with next to nothing for savings by the time you’re receiving the next paycheck. If you are serious about becoming a homeowner it’s important to put a plan in place to get you financially ready.
Start by figuring out how much you need to save. To come up with this goal amount consider the cost of the home and what you’ll likely need in up front costs. Talk to a mortgage professional to find out what type of mortgage programs you’re likely to qualify for so you’ll know what to expect in terms of down payment and closing cost requirements. For instance if you qualify for a VA loan or a USDA rural housing loan you may be able to obtain 100% financing and not have to put anything down. With an FHA loan you can often put down as little as 3.5%, while with a conventional loan you’ll most likely need to put down at least 5%, and 20% or more if you want to avoid paying private mortgage insurance until you reach a higher equity position. Other programs such as investment property loans, construction loans, and high value jumbo or super jumbo loans may require even more down.
In addition to the down payment you’ll need to plan for closing costs, generally a few percentage points of the loan amount. These costs vary widely by location, but a mortgage professional should be able to give you a ballpark figure. In some cases motivated sellers will offer to pay the closing costs for the buyer, up to a certain percentage of the purchase price, but your best bet is to plan on having to pay them out of pocket. Should you negotiate seller paid closing costs when the time comes you’ll have the bonus of a little extra left in savings.
When you apply for a mortgage the lender will generally want to see that you will have some additional funds left over after the upfront costs. This is because homeowners who start out with very little money available are at a much higher risk of default. If you have no savings and had a large unexpected expense or lost your job how would you make that next mortgage payment? Requiring enough money to make two to six months worth of mortgage payments is common.
We’ve covered what you’ll be required to save in order to obtain financing when you buy your home, but smart home shoppers think beyond that. You will likely have additional costs associated with your real estate purchase – that of the move to the new home and getting settled in once you get there. Whether you plan to hire movers or rent a truck and do it yourself price out what it’s likely to cost. Will you need to buy any additional furniture, window treatments, or other items right away? Are there any repairs or improvements you’ll need or want to make when you move in? For example were you hoping to repaint a few rooms or replace the worn out carpeting? Get rough estimates for these expenses and add them to your savings goal.
Finally – be sure you will still have money allocated towards an emergency fund after covering all the costs of the home purchase and move. This should be your highest financial priority – if you don’t have any savings currently make this your initial goal, and once you’ve accomplished it start saving for that new home. Aim for enough to cover at minimum three months, but ideally up to twelve months, worth of living expenses in your emergency fund.
So what might these numbers look like?
Home Purchase Price: $200,000
Down Payment: $7000
Assuming FHA loan with 3.5 percent down payment.
Closing Costs: $5000
Estimate based on $3,536, the average closing costs in North Carolina in 2012 according to the 2012 Closing Costs survey from Bankrate.com plus an additional amount to cover taxes, insurance, interest, and prepaid items. It is tough to estimate these and they vary widely by location and also depend on the time of month of closing.
Moving, Repairs, Etc.: $1500
Estimate based on $500 move, $1000 for new carpet & blinds.
*Percentage of savings allocated to each area.
blue: down payment, grey: closing costs, orange: moving & repairs.
Assuming the emergency fund was already taken care of that brings the grand total in our fictional example to $13,500. That might sound like a pretty big number, but if you can save $1125 a month you’ll have reached your goal in a year. $562.50 a month in savings will get you there in two years.
How to reach the savings goal
Now that you have a number in mind and are ready to start working towards your goal, here are 5 tips to get your down payment piggy bank started!
1. Establish a monthly budget – Without setting some spending guidelines; securing a lump sum of cash will be difficult. Go over all of your monthly expenses and review how much cash is coming in, and which bills you are absolutely responsible for. It may be helpful to meet with a financial planner to devise a budget strategy.
2. Pay off your credit cards – Do not let credit card debt be an obstacle. Strive to pay off any existing balances, and then put the plastic away for good! Doing this should also improve your credit score which will be a plus when you apply for a mortgage.
3. What can you do without? -This is really the meat of the issue. Taking a look at all of your non-essential expenses, doing away with them and putting the extra cash aside is the best way to make headway on your goal of home ownership. If you are serious about saving up for a home you may want to:
- Cancel your gym membership, warehouse club card, magazine subscriptions, and cable.
- If you are making car payments, consider selling your car and using mass transit. In many cities, it’s a definite possibility.
- Use the library to check out books, cd’s, and dvd’s, rather than buying them.
- Stop paying retail prices for clothing and look to consignment and second hand stores for alternatives to over priced, trendy apparel.
- To save on your grocery bill, use coupons and sign up for free, online weekly sales alerts. Also, try to purchase produce from local farmer’s markets, where the items are local, fresher, and usually a bargain.
4. Dine at home – The web site 24/7 Wall St. reported that in 2009 the average US household spent $2,619 on meals away from home. It is a habit that many of us depend on, however, the benefits of dining at home far outweigh the convenience of most grab and go grub. In addition to saving hundreds of dollars each month, dining at home is usually healthier and a great way to bring the family together!
5. Who needs a vacation? – When you are trying to save up for a home purchase, postponing your annual ski trip or week at the beach house can also save you a few thousand dollars. Be creative, consider a staycation, and know that the sacrifice is worth it in the long run.