A Plan for First-Time Home Buyers with Student Loan Debt
Purchasing your first home is a quintessential American milestone. When it comes to affording a first home, however, many aren’t sure how much they should have saved.
First off, it’s important to avoid surprises with your home purchase. A good approach is to work with your lender throughout the homebuying process to know how much you should have on hand to close the deal on your home.
If you begin saving 20% of your income each month, you could be in a good position to not only qualify for a loan with a reasonable interest rate, but also to be able to have a sufficient down payment ready. You should be paying close attention to your gross income (vs. net) when thinking about how much you should be saving.
For instance, anyone earning $100,000 per year would have saved $20,000 in 12 months if they had put away 20% of their income. This would be $30,000 (not including interest) after another six months and could be used towards a down payment and closing costs.
If you have the time to wait and save for your home, putting 10% of your income away will obviously take longer but could provide you with more flexibility as you plan when and where you’d like to purchase a home.
This is by no means easy to do — it requires discipline to consistently put away a portion of your income each month in light of the other expenses you may have.
However, if you can learn to live on slightly less income, you should also take the time to work on your credit score. A higher score can mean having to pay a lower interest rate, meaning you could be able to buy more house for your dollars.
Closing Costs on Your First Home
While many first-time home buyers understandably focus on saving for their down payment, closing costs should also be taken into consideration. These costs vary from state to state and can include real estate transfer taxes, mortgage “stamp” taxes, appraisal fees, and title insurance, to name a few.
In general, closing costs are between 2% and 2.25% of the purchase price of the home. Using these figures, the closing costs on a $500,000, home would be between $10,000 and $11,250. In addition to closing costs, you will need to come up with your down payment to “close” on your home.
The amount of your down payment is determined, in part, on the loan type you choose. For FHA loans, a down payment of 3.5% is required for maximum financing. So for the same $500,000 home, you would need to come up with at least $17,500. Including the closing costs, you should be putting aside approximately between $27,500 and $28,750 to get the keys to your first home.
One more factor that many home buyers are unaware of is having enough cash on hand after closing costs are paid. Many lenders require buyers to have a certain amount in savings left to help ensure they won’t be defaulting on their mortgage. This means having enough money left after closing to be able to make mortgage payments for the first few months, adding to the income needed to save well in advance of buying.
All this means is that if the principle, interest, taxes, and insurance (known collectively as PITI) amount to $2,000 every month, the borrower should be saving at least another $4,000 to cover the first two months of payments when saving to buy their home.
Down Payment and Mortgage Insurance Premiums
Something to keep in mind as you save for your down payment and closing costs is that putting down less money up front for a home usually means having to pay more in mortgage insurance premiums each month.
However, a larger down payment will result in lower mortgage insurance premiums. Typically, you’re required to have mortgage insurance when you have less than a 20% down payment when buying a home, although certain loan programs will require mortgage insurance regardless of the size of the down payment.
In the end, having at least 1.5 times the amount of the down payment to pay all the related expenses of a first home (including the down payment itself) is a smart option.