5-step process of buying a house
Taking out a mortgage is a complicated process that can seem overwhelming for first-time homebuyers. Between real estate agents, lenders, escrow accounts and your seller, it can be hard to understand where to even begin.
The homebuying process can be best understood by breaking it down into smaller steps. Let’s take a look at the five biggest steps you’ll need to take on your mortgage journey.
- Prepare your finances
- Prequalification & preapproval
- Home shopping
Preparing your finances
Before you even apply for a mortgage, you’ll want to prepare for the expenses and credit thresholds associated with buying a home. Even if you can afford the monthly mortgage payment, following through with a home purchase is a costly process, full of fees and the potential for expensive delays.
Building a strong financial background before buying a home is the best way to ensure a smooth mortgage process. Here’s a look at some of common financial hurdles buyers can encounter:
Anyone applying for a mortgage will need to have a hefty amount of savings to not only cover fees, but to claim a stake in the property through a down payment. Borrowers typically provide a down payment of more than 20% of the home’s value. However, there are options available to help homebuyers ease this financial burden.
As the buyer’s most expensive upfront cost, down payments can be a hindrance to anyone without an adequate amount of savings. With enough cash on hand to confidently cover this expense, you’ll have more homebuying options and be better able to pick the house that suits you best.
Your credit score is three-digit representation of your overall financial background and history of repaying debts. Ongoing loans, lines of credit, or previous debts all have an impact on your credit score, which is used by lenders to determine the risk associated with lending you money.
A higher credit score means lenders will be more confident in approving a mortgage application since the borrower can demonstrate a strong record of debt management.
A low credit score, however, indicates a troubled financial past. A score on the lower end of the spectrum might mean a history of unpaid debts or haphazard spending, making you seem more likely to repeat those mistakes in the future.
You might still get approved, even with a low credit score, but your lender will likely attach a higher interest rate. Interest is what lenders charge for the financing they provide and is commiserate with perceived risk. .
Whether you can get approved or not, it’s always a good idea to focus on repaying existing debts and improve your credit score prior to applying for a mortgage.
Prequalification & preapproval
There are a few preliminary steps you’ll have to go through in order to qualify for a loan and begin shopping for a home. In order to understand how big of a loan you can afford, you’ll first have to clear prequalification and preapproval:
This first of these steps is known as prequalification, which establishes how big of a loan you can afford to repay. By providing information such as income, credit history and ongoing debts, you’ll get valuable feedback on whether your application is likely to be approved. While this process won’t guarantee your application gets approved, it does help identify your financial needs and set your homebuying expectations.
During prequalification, the borrower will provide documentation that lays out their financial status, including pay stubs, bank statements, or any other documents your lender might request. This information is submitted during prequalification, but won't be verified by the lender until a later the next stage.
Prequalification gives your lender a broad overview of your finances and helps determine if a mortgage loan is possible. Once you’ve passed prequalification, you’ll have a better understanding of your mortgage eligibility and how much you can afford overall.
Your credit score, debt to income ratio and employment history are among the many factors that determine your eligibility and what mortgage options you can afford. This information may have been submitted during prequalification, but that documentation isn’t verified and deemed factual until preapproval.
Much like prequalification, preapproval does not guarantee a loan. It does provide a conditional agreement that the lender can approve and provide financing. As an official status of eligibility, preapproval encourages sellers to move forward with an offer, given the added assurance that a prospective buyer’s loan will be secured.
While many buyers feel the need to get out and find their dream home right away, taking the steps of prequalification and preapproval can better set you up for success in the real estate market. Too many buyers have gotten their heart set on a home only to find out the required mortgage is beyond their reach. Preapproval will give an exact estimate of your own affordability, making the house hunting process all the more simple.
With your pre-approval in hand and your real estate agent on board, you can now start shopping for a home. Keep in mind that during the pre-approval process, your estimated taxes, HOAs, assessments and insurance costs were assumed in the loan estimate. These variables could change when you land on a specific property.
Once your offer is submitted, your lender will begin the underwriting process for your mortgage. Underwriting is the lender’s way of assessing how much risk is associated with lending you money.
Underwriters thoroughly verify every document you’ve submitted for your mortgage application. Employment history, income, the home appraisal and title search are all closely reviewed and double checked in this stage.
Underwriting plays an essential role in identifying potential cases of fraud in a mortgage application. A well organized portfolio of application documents and conducting your own due diligence when home buying helps ensure a smooth underwriting process.
At the final stage of buying a home, your lender will have approved your documentation and deemed the loan cleared to close. Your real estate agent will have confirmed a closing date and time while your lender prepares the closing package.
Any outstanding fees are also settled at this point, via the home’s closing costs. Closing costs are paid at the very end of the homebuying process and are typically the final step when buying a home.
Usually amounting to 3% - 5% of the total loan amount, these fees typically include appraisal costs, credit checks, taxes and other associated charges.
While buying a home might seem like an impossibly complicated endeavor, taking the process step by step can alleviate a lot of the stress. A mortgage payment calculator can help you even better understand your own financial situation and property purchasing power.