This is Part 2 of a 5-part series in our first-time house buyer’s guide. Just joining in? Start here.
The funds for the down payment are in your savings account. Congrats—you’ve cleared the first big hurdle of home buying. And now you’ve begun fantasizing about stainless steel appliances and a sun-filled sitting room. But hold on: Before you start touring homes, tackle the next “to do” on that list of requirements to buy a house. It’s time to apply for a home loan and learn how that affects your savings.
Understanding the mortgage application process and going into it prepared can help you get the lowest interest rate, which can help you save money over time.
A mortgage is a loan that a bank or mortgage lender gives you to help you buy property. Unless you have enough money stashed to pay solely in cash and upfront (which not many people do), getting a mortgage is a key step to buying a house.
Here’s what you’ll need to do:
First up? Get a big folder. Having all of your paperwork together before you reach out to banks or mortgage lenders will save you the hassle later. If you’re purchasing a home with a spouse, partner or significant other, make sure you have these forms for both people:
Provide identification. Don’t forget the basics. Make sure you bring your driver’s license, passport or state-issued ID.
Get a copy of your credit report. Your credit report works the same way your school report card did—the higher, the better. If you have a higher score, you’ll get a better mortgage rate. You don’t have to bring the credit report to your appointment (the lender will often access it with your permission).
Review your credit report before your meeting. If you notice any errors that may make your credit score lower than it should be, you can correct them before your meeting. In fact, an FTC study suggests that 20% of consumers may have errors on their reports at any given time. Your credit score will determine if you qualify for a loan and what rate you’ll be charged, so you’ll want to make sure the report is accurate.
Gather pay stubs, tax returns, W-2s or 1099s. A month’s worth of pay stubs will give lenders an understanding of your current earnings, while the past 2 years of tax returns gives them a clear picture of your financial health.
Take stock of your assets. Lenders will also need to see bank statements, insurance policies and any investments you have. They do this to ensure that you’ll have enough money available to cover mortgage payments in case of a job loss or emergency.
Round up your rent history. If you’re a first-time home buyer, the lender will want to ensure that you paid your rent on time and didn’t bounce any checks. You can provide a copy of a year’s worth of cashed rent checks or a letter from your landlord explaining that you paid on time.
Get a gift letter, if necessary. If you’re planning to use money that a friend or family member is giving you, you’ll need to supply a letter from the person explaining that the money is a gift and not a loan that will need to be paid back.
Once you have all of your documentation in place, it’s time to start reaching out to lenders. You’ll likely want to get in touch with multiple lenders to see who can give you the best rate. The lower the interest rate they can lock in for you, the less interest you’ll pay every month and the more money you’ll save over time.
However, you don’t want to reach out to too many. Each lender will pull a copy of your credit report. Each time a new lender does this, an inquiry will be reported, which could lower your credit score by a few points.1 Comparing costs from 3 lenders will help you compare rates with little, if any, damage to your credit score.2
If lenders aren’t willing to loan you the money, they’ll usually explain why. It could be because you have a low credit score, you’re getting back on your feet after filing for bankruptcy, or your employment history is a bit shaky.
In those cases, you can consider asking a parent or sibling to co-sign the loan with you. When a person with better credit or a more stable work history co-signs the mortgage, you may be eligible for a loan you wouldn’t have gotten on your own.
The lender thoroughly examines your finances and explains how much they’re willing to lend you and at what rates. They’ll give you this information in writing, and once you start looking for a home, the pre-approval letter indicates to sellers that you’re serious. Having it can give you a leg up on someone else that’s interested in the same house you have your heart set on.
Pre-approval also means that once you’ve qualified for a mortgage, you’ll know the price range you can afford. This information will save you the time and trouble of looking at homes that are too expensive—and save you the heartache of falling in love with a home that’s beyond your budget.
Down the road, when you’re a full-fledged homeowner and paying your mortgage, you may be eligible for a tax deduction for the interest paid on your mortgage each year. Knowing this information and using it at tax time can help you save thousands of dollars in taxes per year.3
A tax deduction reduces your taxable income. You pay taxes on the reduced amount—which means less money going to the government and more into your wallet. The amount you can save from the home mortgage interest deduction varies according to many factors, such as your tax bracket, how you file your taxes (joint or individual), the cost of your home, the amount of interest you’ve paid and the length of your mortgage.
A handy mortgage tax deduction calculator can help you understand what amount you’re looking at for your unique situation. Depending on these factors, a person with a $200,000 house and a 30-year mortgage may save over $3,400 dollars in their first year of owning a home. Even though you’re still in the beginning of the mortgage application process, understanding this information may give you some peace of mind for the future.
Your dream of owning a home is becoming a reality. Next comes the fun part: You’re ready to find a realtor and start looking at homes. Let the house hunting begin!
In Part 3 of the series, find out what to look for when buying a house and the best time to buy.
This site is for educational purposes. The material provided on this site is not intended to provide legal, investment, or financial advice or to indicate the availability or suitability of any Capital One product or service to your unique circumstances. For specific advice about your unique circumstances, you may wish to consult a qualified professional.
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