Even with the Fed's recent rate hike, today's mortgage rates and home prices remain low. You may be thinking about making a leap into home ownership. And you'd be hard-pressed to find a good argument against doing so.
If you're new to the mortgage market, don't get caught making some of the more common first-time home buyer mistakes. Here are five common first-time home buyer mistakes, along with suggestions to help you avoid them.
First time home buyer tips
It's possible to learn from other's home buying mistakes. Take note:
1. Getting only one mortgage loan quote
Why it's a mistake: Mortgage rates can definitely vary from one lender to the next. In the table below, which shows actual rate quotes from different lenders in your area, you can see how mortgage rates vary anywhere from .25 to .50 in percentage points.
Rates can vary based on a number of factors. Loan type, loan term, credit score and down payment are just a few factors that can affect your mortgage rate. This doesn't account for the fact that some lenders may be quoting rates with higher fees (such as origination and loan discount), whereas others may offer lower fees with higher interest rates.
Be sure to work with knowledgeable lenders who are willing to take the necessary time to explain everything you need to know. This is especially true with regard to being able to understand how to properly compare different mortgage quotes.
The best scenario for you depends on your personal situation. Regardless, it's definitely worth your time to do a bit of comparison shopping. A good mortgage calculator can spell this out for you quickly and easily. On a $300,000 home loan with a mortgage interest rate of 5 percent, you'd be paying $279,767 in interest over 30 years. Using a rate just .25 percent higher, you'd pay an additional $16,613 in interest over the life of the loan.
How to avoid it: Don't assume the first lender you ask is giving you the most competitive rate and the best type of loan for your situation. Always get at least two or three quotes from qualified lenders.
2. Not knowing your credit scores
Why it's a mistake: Did you know that literally one point on your credit score could mean the difference in thousands of dollars? Credit scores and interest rates are closely related to one another. Mortgage pricing, also known as the amount of money you need to pay or be credited based on the interest rate, is tiered at 20-point increments.
A homeowner with a 679 FICO score isn't necessarily a higher risk as compared to one with a 680 score. However, Fannie Mae has what's known as "Loan-Level Pricing Adjustments." What this translates to for that person with the 679 FICO is three quarters of a percentage point more in loan fees than the person with a credit score of 680. That amounts to $2,250 more on a $300,000 mortgage.
How to avoid it: As soon as possible, definitely prior to making loan application, get a free copy of your credit report from one of the numerous online resources that are now available. Be sure and not only get your report, but also your scores. One such place you can do this is at www.annualcreditreport.com Concentrate on correcting inaccuracies on your credit report and paying down revolving balances. Better to spend that $2,250 on paying off a credit card, which would also potentially bump your credit score, rather than giving that money to Fannie Mae simply because you fell short on your FICO score by one point!
3. Dismissing FHA loans
Why it's a mistake: One of the important first time home buyer "things to know" is that the Federal Housing Administration (FHA) insures home loans for people well beyond those with low income or low credit scores. FHA limits the amount you can borrow based on your geographic location, and you need to pay both upfront and monthly mortgage insurance. However, FHA loans have several distinct advantages:
- Required down payments are as low as 3.5 percent
- FHA loans are assumable -- making these loans more appealing when selling your home in a tough market as it allows the seller to transfer their loan to the new buyer at the current rate
- Minimum credit score requirements vary but are generally 580
- Underwriting tends to be more flexible than with conventional underwriting
How to avoid it: Get in touch with a few FHA-approved mortgage lenders. Shop and compare the numbers on FHA loans relative to conventional financing. You may be pleasantly surprised.
4. Going after the lowest monthly mortgage loan payment
Why it's a mistake: Lower mortgage payments don't always mean the most savings. For example, if a 15-year and a 30-year loan had the same mortgage rate, the 15-year would require a higher monthly payment. Yet you'd pay less in total interest due to the shorter 15-year term.
Choosing a mortgage loan with a lower monthly payment isn't necessarily a bad decision. Just be aware that one of the common home buying mistakes is to lose sight of the fact that the lower monthly payment may be coming at higher cost due to the amount of interest you'll pay over the life of the loan.
Similar to a credit card, by continuously making the smaller monthly payment, you can rack up loads of interest in the process. While this can be appealing in the short-term, it can become a costly burden over time.
When you refinance, watch out for the logic of "lower payment equals savings." When you refinance, the new loan often stretches out the remaining balance over a new repayment term. This can give the appearance of monthly "savings" when in fact you may not be saving much, if any, over the long haul.
How to avoid it: The goal is to keep your monthly payments low, but also make sure you're aware, and comfortable with the total interest you'll be paying over the life of the loan. HSH.com's Tri-Refi calculator lets you see the cash outlays clearly.
5. Fixating on the 30-year fixed rate mortgage loan
Why it's a mistake: For many conservative homeowners, traditional 30-year fixed rate mortgage are the only home loans to consider. However, especially for millennial buyers, adjustable-rate mortgage (ARMs) -- which give you a fixed rate for a specified number of years before becoming adjustable -- may be a better option.
According to the National Association of Realtors, from 2008 to 2016 the average home seller in the U.S. owned their home for nine years. For younger homebuyers, it's possible that you may need to be even more mobile for a job move or family change. Using this logic, one of the common first time home buyer mistakes is failing to see that a 30-year fixed rate mortgage isn't necessarily your best option.
A myth related to adjustable rate mortgages (ARMs) is that their interest rates always increase. The truth is, especially in the early to late 2000's, as mortgage rates continued to fall, ARM rates adjusted downward as well.
Adjustable rate mortgage loans can be a great alternative to the traditional 30-year fixed mortgage. Ask other homeowners who've had experience with ARM loans. You may be surprised to hear the positive things they have to say about their ARM mortgage.
How to avoid it: Think realistically about how long you may own your first home. When shopping for a mortgage, ask about ARMs with various fixed-rate terms, and then compare them to fixed-rate loans of various lengths.
First time home buyer: things to know
Many home buying mistakes are avoidable. Understanding the home buying process, doing your homework to be aware of common first time home buyer mistakes and working with a great lender can make all the difference and a much smoother process.
Related: Six things you shouldn't say to your Realtor
Also see: "Best mortgage lenders for first-time home buyers"
