Adapted from Money Crashers | U.S.News & World Report LP
1. Find out how much home you can afford. Before you do anything else, find out how much home you can afford. To do this, look online for a quality mortgage calculator (Zillow has one that works well). Mortgage calculators show you how much home you can afford based on your income, an average interest rate, and the length of the loan.
You also need to calculate your debt-to-income ratio, which shows the amount of your income that goes toward paying your debts. The higher your ratio, the less likely you will qualify for a home loan. Find out if you can get a mortgage before you begin searching for your dream home. If your debt-to-income ratio is more than 36 percent, you should think about getting out of debt, or at least reducing your debt immediately.
Your credit score also plays a role in your loan eligibility. If you have a higher credit score, you will be eligible for better loan rates. If you have a low credit score, on the other hand, you should first learn how to improve your credit score before you get pre-approved for a loan.
2. Get pre-approved. Take the time to get pre-approved before you begin looking at homes. In fact, many real estate agents won't work with you until you have received pre-approval for a mortgage. Regardless, you should look to get pre-approved anyway. You might find the perfect home, and then find out the bank denied your loan application. This heartbreaking scenario wastes your time and your agent's time, too.
Going through the mortgage-approval process can be a frustrating experience, so be prepared. In addition to all of the paperwork, you have to answer a lot of very pointed questions about your income, net worth, and credit worthiness. If you have a 20 percent downpayment, a high credit score, and a steady job, then you have a better chance of being pre-approved for a loan.
3. Find a real estate agent. Once you've improved your credit score and you know how much home you can afford, you need to find a great real estate agent. Your agent acts as your representative, provides you with information about market prices, and helps you find a home. Finding a real estate agent you can trust can take time. Talk to friends, family, and co-workers for potential referrals, and use your intuition. If you feel uncomfortable with a real estate agent, keep looking.
4. Take stock of your financial situation, again. By the time you get ready to buy a home, you may be sick of thinking about money. After following each of these steps, look at your available income one more time, and review your short- and long-term financial goals. Ask yourself: Do I really want to invest $100,000 or more into a home? Do I want to stay in this neighborhood, or state, for the next several years? Or do I want to put that money towards some other dream?
Final thoughts. We're currently experiencing a buyer's market. You can find wonderful deals on homes, and you may qualify for a low interest rate. However, this also means that if you buy a home in the next year, you may need to stay in it for several years until home prices begin to significantly appreciate. Review your short and long-term goals carefully to make sure buying a home is right for you. Follow the steps outlined here, and when the time is right, get ready to buy your home.
If you're looking to buy a home in the next few years, what steps are you taking to prepare?
Heather Levin writes about real estate, green living, and sustainability on Money Crashers, a personal finance website aimed at educating young people about important financial issues.