Three Mistakes You Can’t Afford to Make When Buying Your First House

When you’ve decided it’s time to buy your first house you’ll be flooded with a ton of emotions. It’s exciting and stressful at the same time, and ultimately very rewarding once the papers are signed. Unfortunately, all of the emotion and stress can mean missing something very important or rushing into the decision which can haunt you for as long as you own the home. But if you can take a step back and slow down during the process while understanding a few of the major pitfalls of buying a first house, you’ll be sure to find yourself in the right home, at the right time, and for the right price.

I like to look back at our first home purchase and see all the things we did wrong. In hindsight, we probably never should have bought a house, especially since it was back in 2005 at the top of the real estate bubble, but what’s done is done. Now, it’s best to learn from our mistakes so that history doesn’t repeat itself.  Keep in mind that a home is one of the big items that make many people poor. So, here are three of the biggest mistakes most first-time homebuyers make, myself included. If you can avoid these on your first purchase you’ll have few regrets and have a better chance of coming out ahead.

1.  Rushing Into Buying a Home

For young adults likely coming out of college and landing their first real job, it’s not uncommon to consider settling down and stop throwing money away on rent and find a nice piece of real estate. After all, owning a home is part of the American Dream, right? While it’s true that buying a home and building equity can help you build wealth compared to renting, there’s a lot that can change early on in someone’s life. Buying a home is a long-term commitment, and if you run out to buy something too soon, your situation may change make that home purchase an anchor, or worse, result in a substantial loss of money.

Succumbing to the temptation of becoming homeowners, we fell into this trap. My wife and I were in our mid-20s and she just received her first real job offer, but it meant relocating. This was exciting and we knew that we were both sick of renting and constantly hopping around from apartment to apartment over the years. We wanted to find a place to call our own and settle down a bit. This ended up costing us dearly.

Almost as soon as the papers were signed at her job we were on the hunt for a house hundreds of miles away. So, it meant doing a lot of looking online and then planning day trips to the new location and spending hours upon hours with a real estate agent looking at houses. Feeling under the gun to get moved in sooner rather than later so my wife didn’t have to commute halfway across the state, we closed on our first house in under 30 days from the moment we started looking. Seemed amazing at the time, but how foolish it seems now.

The house was actually pretty nice after coming from living in somewhat dumpy apartments all through college and the few years after. It was small, almost like a cottage, and had a view overlooking a lake. It was in an extremely quiet and rural area and sat on a nice chunk of land. The problem is since we rushed into it we really didn’t take into account some important amenities or think about our future which might one day include children. It only took a few years in the house to realize we overlooked some things we really wanted in a house, and a few years later upon learning we’d be having our first child, we immediately knew this house wouldn’t cut it for kids. The home layout was terrible if you had a small child, and the home was literally in the middle of nowhere in a school district we wouldn’t really want our kids. Even worse, by now we’re in the midst of the real estate market collapse and we’re underwater on the house. We still desperately needed to find someplace better, so the search for a new home began and we planned on just keeping the other house and hopefully rent it out.

As you can see, rushing into buying a home burned us in more ways than one. So if I were you, I’d seriously take a moment to slow down and make your decision very carefully and take everything into account. If things change in just five short years you could find yourself in a lot of trouble.

2. Buying More House Than You Can Afford

If rushing into that home purchase is bad news, then spending more on a house than you can truly afford is even worse. When it comes to calculating how much home you should reasonably afford there are a lot of rules of thumb and various debt to income ratios that banks use, but this has little to do with what you can truly afford.

Before even stepping foot in a bank, you need to sit down and run the numbers to see what you can afford. This may mean creating a budget for the first time to see where your money is going or you may need to do a budget review for those who have done one, and understand how much you have to work with, but trust me, this extra step will be worth it and it could potentially save you from a financial hardship down the road. This step might mean you have to go back to the drawing board a bit and figure out how to save money for the house you want.

The key to doing this is to take into consideration all of the new costs associated with a home. If you’ve been renting your whole life you’re going to encounter a bunch of new expenses that you never had to worry about before. Sure, the mortgage payment, which includes principal and interest is going to be the biggest and most important payment, but don’t stop there, which is what most banks do when calculating the maximum loan amount. Instead, you’ll want to also consider:

  • Property taxes
  • Homeowners insurance
  • Possible Private Mortgage Insurance
  • Utilities
  • Maintenance

Let’s go through a quick example to see how these costs can add up. Let’s say you find a house for around $170,000. You can’t afford a full 20 percent down, but you do manage to make a 10 percent down payment. After all said and done, you end up taking a $150,000 mortgage at 4 percent. Your principal and interest mortgage payment will be just a tad over $700/month. That seems like a good deal and an affordable payment. But, that mortgage payment isn’t the end of the story.

First, you have property taxes. These will vary greatly depending on location, but you can almost certainly count on a home at this price point costing anywhere from $1,500-$3,000 a year in property taxes. (although there will clearly be exceptions to this rule) Either way, that comes out to another couple hundred bucks a month on average.

Then there is homeowners insurance. Again, rates will vary, but insuring a home like this will probably cost $700-$1,500 a year, or another $50-$100/month.

Since you weren’t able to put a full 20 percent down payment you’ll likely be subject to PMI if you carry a traditional mortgage. This will run between about $60-$100 a month.

Utilities are a bit of a wildcard. If you’ve been renting, it may be that some utilities were included. Even if they were not included, the hidden cost of moving into a (usually larger) house is that it costs more to run the home. A larger home means more electricity, more rooms to heat and cool, and possibly some new utility bills entirely such as sewer, water, trash disposal, propane fuel, etc. It’s hard to know exactly how much more utilities will cost you in the new home, but you should budget about $100/month to be safe.

Maintenance is another mixed bag. In a perfect world you’d move into a house and not have any issues for years, but that’s not how it usually works. I know the first few years in our new house we had things like a furnace repair, a dishwasher went bad, the well had to be serviced, I needed to buy a lawn mower now that I had a lawn to care for, and so on. I’d say in the first year we had close to $1,000 in miscellaneous expenses and repairs.

So, in the end, what does this do to the initial $716/month mortgage? After you tack on taxes, insurance, PMI, and the varying utility and maintenance budget, it will actually cost closer to $1,300 a month after all is said and done. Think about that for a moment. You may have had your heart set on buying a home in the $165,000 range because the mortgage payment looks affordable at today’s low rates, but in reality, your monthly cost could actually be closer to double that amount. If you didn’t budget for these expenses and just went to the bank and thought the $716/month mortgage sounded good, you could be in a tough spot when reality sinks in with all the other costs. It would suck getting into your dream home and then not being able to pay your bills.

Another important thing to keep in mind is your income. Job stability is becoming more of a thing of the past and what would happen if you lost your job or if you went from a two income household to one? This happens a lot in todays job market and it is sad to see someone quickly get in over their head because of something like this.

3. Choosing The Wrong Loan or Lender

Shop around. Finding the best mortgage and talking with a bunch of lenders, submitting mountains of paperwork like tax returns and pay stubs is a hassle, but this is one area you can’t be too careful with. Lenders vary greatly so at a minimum you’ll probably want to talk with five lenders at a minimum. It’s not the most enjoyable aspect of buying a home, but trust me, getting tricked into paying points or working out some unconventional loan just to get the deal done could literally cost you tens of thousands of dollars.

Thankfully, the real estate crisis and the lost decade of investing has curbed many of the loose lending requirements and shady unconventional loans, but that doesn’t mean the banks are on your side and they will simply present you with the loan that’s right for you. Be sure you ask questions and understand what you’re getting into. Be cautious whenever the interest rate looks too good to be true or if they say they can structure the loan in a way to get you out of paying PMI, and so on. While there are legitimate ways to make these things happen, if you aren’t being presented with a traditional 30-year fixed mortgage, be sure to ask questions.

Seriously, ask questions at every step of the process. You could be stuck with this loan for many, many years, so making sure you understand every detail about the loan, the rates, the points, the total costs, will ensure you know what you’re getting into. There are so many things that you will be most likely doing with for your first time, like what’s a good credit score, for example. There’s no such thing as a stupid question, so if you honestly don’t understand something, simply ask.

Ask me how I know. We rushed into buying our first home, so that also meant rushing into getting a mortgage. We should have shopped around more because we still own that old house and now that it’s classified as a rental with little to no equity, refinancing has been impossible, and we’re STILL stuck with the old mortgage to this day, at a whopping 7.5%. A simple decision is still haunting us eight years later.

Wrapping Things Up

As you can probably see, there’s a lot to think about when it comes to buying your first home, and it isn’t a decision to be taken lightly. Rushing into it is a bad idea. Even today when the market appears to be at or near the bottom and there might be an urge to strike while the iron is hot, you can’t just run into buying a home. Even if you find something that looks perfect, if the numbers don’t add up, there’s no reason to buy it thinking somebody else will snag it and you’ll never realize your dream house. There are plenty of homes for sale and who knows, you may miss out on that one, and another one even better will list a month or two later.

In the end, don’t underestimate the true costs in owning a home. It’s great that mortgage rates are so low since that makes the overall cost low, but the things like insurance, taxes, and maintenance are not trivial additions. They really will add hundreds of dollars a month to your overall home expenses. Factor those in to the best of your knowledge before even looking for homes so you know exactly what you can truly afford.

And finally, buying a home is a long-term commitment no matter how you look at it. It’s virtually impossible, especially in this market, to buy a home and then suddenly have to sell a few years later and come out breaking even, let alone ahead. And even if you do plan on staying in the home for a while, choosing the right loan will probably stick with you for a long time, and if it isn’t the best loan available to you, you’re literally throwing money away. For all of you who have been good at investing early and doing the things like maxing out your 401k contributions you might want to consider looking at how much you have in that account. A 401k loan can be great for a first time home buyer.

If you can avoid these three biggest mistakes, you’ll find that buying your first home is a rewarding experience. And if you’re lucky and you do things the right way, you really will be building wealth through equity in real estate and put yourself in a better financial position in the future.

Author: Jeremy Vohwinkle

My name is Jeremy Vohwinkle, and I’ve spent a number of years working in the finance industry providing financial advice to regular investors and those participating in employer-sponsored retirement plans.

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