Like with so much else in personal finance, getting the best possible deal on a mortgage depends on preparation, comparison and timing. Not only is it important to get your financial house in order before applying, but you must also carefully determine how much house you can afford, cast a wide net when it comes to potential lenders and, in an ideal world, apply when interest rates are low.
Don’t worry, we’ll address each of those issues in detail below:
Getting Your Financial House in Order
The type of home that you will be able to purchase obviously depends on the nature of your financial situation. More specifically, how much disposable income do you have, how big of a down payment can you make, and what’s your credit standing like?
Those questions are critical because they directly affect the type of homes that you can realistically consider as well as the cost of ultimately financing one. The lower your credit score, disposable income, and down payment, the more expensive and uncertain traditional financing options will become.
Two clear pre-mortgage objectives therefore emerge:
- Maximizing your credit score – The easiest way to improve your credit score is to have multiple credit cards in good standing. Credit cards report usage information to the major credit bureaus every month, and as long as it reflects low credit utilization and timely payments, your score will improve. Keep in mind, however, that if you plan on applying for a mortgage within the next 6 months or so, you probably shouldn’t open a new credit card account given the temporary credit score damage that doing so triggers.You should also exercise your right to free annual copies of your credit reports so that you can review them for potential errors or signs of fraud that might be holding your score back. If you aren’t sure of your credit score, there are a number of free ways to estimate where you stand.
- Maximizing Disposable Income – The last thing anyone wants is to lose their home. You should therefore begin whipping your budget into shape well in advance of your purchase in order to adjust to the cuts that you may have to make to comfortably afford your monthly mortgage payments. So make a list of your current monthly expenses and include your future mortgage payment as well as a monthly contribution to an emergency fund that you can tap into if times ever get tough. Then cut any trivial expenses that would cause you to spend more than your monthly take-home and make sure to stick to this strategic plan.
Compare Lending Options
I see it far too often in lending – consumers making up their minds in advance about what type of loan they want or which bank they want to issue it. For example, according to a recent WalletHub Report, many home buyers who have less than 20% for a down payment can save around $3,500 to $13,000 by opting for private mortgage insurance rather than an FHA loan, but they don’t because the latter has a less expensive connotation.
Such assumption-making is a big mistake simply because there are thousands of financial products available – regardless of whether we’re talking about credit cards or mortgages – and your odds of finding the best offer decline significantly if you limit your search unnecessarily.
Once you’ve identified a few good lenders, you should apply for pre-approval. This involves a lender doing a thorough review of your financial history and, if applicable, providing you with a letter of pre-approval that states how much money the lender would be willing to extend your way. Letters of pre-approval are not binding, but they do engender confidence among realtors.
Mortgage rates have been near record lows in recent years, as the Federal Reserve attempts to stimulate economic activity in the aftermath of the 2007-2008 housing market collapse. While that makes now a pretty good time to apply for a mortgage, most of us unfortunately do not have the money to buy a home after the tough times we’ve endured of late.
But with that said, it’s important to note how the interest rate environment may impact the type of mortgage that you apply for, or at least the mortgage advice people will give you. Most people recommend fixed-rate mortgages when rates are low and adjustable-rate mortgages (ARMs) when rates are high. This, of course, assumes that people know what rates will do in the future, but if that were true they would be on a beach somewhere instead of prognosticating. In truth, the only time you want to opt for an ARM is when you are sure that you will no longer be in that home by the time the fixed period of the mortgage ends.
Creative Options Once You’ve Got Your Mortgage
Interestingly enough roughly 64% of credit card companies allow you to pay for your home with plastic. More specifically, they allow customers to transfer mortgage balances to certain credit cards, often for an interest rate as long as 0% for as long as 18-21 months.
This presents some very interesting options for home buyers. If you have a good enough credit score, you can use a card like the Slate from Chase — which offers 0% on debt transferred within the 18 months and doesn’t charge any fees — to pay off a small amount of your obligation to the mortgage lender and shift that debt to plastic. Not only does the credit card stand to be cheaper (assuming you pay off your full balance within the 0% term), but credit card debt also is not secured. In other words, nothing is getting repossessed or foreclosed on if you can’t pay for some reason.
Just make sure not to forget that high regular interest rates typically take effect at the conclusion of a credit card’s introductory-rate period, and you can’t always transfer your remaining balance to another low-rate credit card at that time. So use this strategy to slowly chip away at small chunks of your mortgage whenever an attractive enough balance transfer offer is on the table, but make sure to use a credit card calculator and remain as disciplined as possible.
A home is one of the largest, most important purchases that a person can make. It can have widespread, long-term implications for your financial life and should therefore be approached with care. So make sure not to overextend yourself or turn your home into an impulse buy and avoid any financing offers that sound too good to be true because they probably are.
Odysseas Papadimitriou, a former senior director at Capital One, is the CEO of the personal finance websites CardHub & WalletHub.