I’m a pharmacist living in the Philadelphia area with no debt. Four months ago, I moved back in with my parents because I was tired of spending money on rent and wanted to begin saving to purchase my first home.
Here’s my predicament: I would like to buy a home in the city but the advice of my parents is to be more frugal and explore suburban life. Personally, I think the Philly market is ripe for the picking so a purchase there would not only be a short-term living situation, but a long-term investment.
Do you have any information, statistics or advice that would help me make this decision?
It’s smart that you’re thinking of a home purchase as a long-term investment. That’s the right mindset. The market may be hot right now, but it won’t always be this way. The longer you are able to hold onto a property, the more likely the home will appreciate in value.
By the way, real estate happens to be one of my favorite topics, so thanks for piquing my interest with your question. I bought my first place, a small studio, in Manhattan over a decade ago. And since then I’ve dabbled in real estate a couple more times.
I am also drawn to your query because I, too, lived in the Philly area and think it’s a wonderful place to call home. [Although, I do remember home prices in our neighborhood as being quite expensive. I’m not 100% sure your parents are right in thinking suburban life is necessarily cheaper. You also have your quality of life to think about. If you find the city to be more invigorating and closer to work and friends, this may ultimately be the best location for you.]
In any case, whether you choose an urban or suburban lifestyle, my advice for tackling your first purchase is the same: study the market and get all your financial ducks in a row prior to making a bid, especially now with housing moving so quickly on the market. It’s really a seller’s market and that means you have to up your buyer’s game considerably.
With interest rates remaining very, very low, buyers are pouring into the market – and have been doing so for the last few years — creating far more demand for housing relative to supply. In many markets, sellers are accepting offers within a matter of days. [Brag: I sold my studio a couple years ago in less than 24 hours.]
To put things in perspective for you: In the Greater Philly area, where you’re interested in finding a home, there were 28% fewer homes on the market in the second quarter of this year compared to the same quarter in 2015 and prices have gone up close to 10% in that same period to $180,000. Average days on the market: 57. This is all according to local data from the National Association of Realtors.
As someone who wants to make a sound long-term investment in a residential property and be taken seriously by sellers, you’re best bet is to line up all your financial ducks before making any bids. In fact, before going to any open houses be sure you’re in a position to successfully lock in a bid, all to avoid the heartache of losing out on a home you really, really love. [And trust me, real estate gets emotional.]
Here are some of my best practices for gearing up to bid on and buy a home:
Know What You Can Comfortably Afford
A smart rule-of-thumb is to spend a maximum 30% of your take-home pay on a home (including mortgage, property taxes and any maintenance payments). The false assumption I often see newbie homebuyers make is thinking they can comfortably budget the same amount for a monthly mortgage as they currently do for rent. But when you own a home you’ll have many more out-of-pocket costs to cover like property taxes and repairs. Better to lower your expectations!
Be Ready to Put Down At Least 20%
In tight markets like Philly, money talks. And the more you can put down on a home sale, the more attractive a buyer you’ll be. In general, banks prefer to qualify borrowers with more skin in the game because it means less risk for the lender. And for sellers, buyers with bigger down payments come across as more attractive because it usually means they’re more financially ready and can possibly close on the home faster. In today’s market and in popular, fast-moving cities like Philadelphia, 20% is the norm for a down payment. With the median sales price at $180,000 in Philly, this means a $36,000 down payment.
That said, in other markets that are quieter and less competitive you may have more luck getting a mortgage with much less down, according to Tom Salomone, President of the National Association of Realtors. And if you can’t put down a hefty payment, some banks are willing to be receptive to your financial needs, as long as seen like a strong applicant otherwise. “Safe, sustainable mortgage products are available to creditworthy buyers that require as little as 3 percent down,” he says.
Firm Up Your Credit
Speaking of credit, this is a critical part of your financial portfolio as a homebuyer. Banks will look at this very closely.
It’s great that you’ve already checked and know where you stand [and with a score in the 800’s you in great shape!]
Just so you and others know, if you have a score that’s below 700, you may want to wait it out and take time to pay down debt or improve your credit history. Typically, the lowest interest rates go to mortgage borrowers with a credit score of 760 or greater, according to FICO. And a lower rate can mean thousands of dollars saved over the life of a 30-year mortgage.
To outshine competing buyers, get pre-approved for a mortgage before making any bid. Based on your income, debt, savings, credit score and other factors, a bank can pre-approve you (within as little as 24 hours) for a mortgage up to a certain amount. With this bank letter you can confidently bid on a home knowing that you’ll be taken seriously. As Salomone says, “[Getting pre-approved] shows the seller that the lender really knows what the buyer can afford, meaning your offer is reasonably likely to make it to the finish line.”
Keep in mind pre-approvals tend to only valid for a certain period of time, typically 90-days.
Compile the Rest of the Paperwork
If I learned anything from my last three home purchases, it’s that you’ll have your work cut out for you once a seller accepts your bid. Your lender will demand many documents. The faster you can compile them, the faster the underwriting will take and you can close on your dream home. Keep this list in mind and be sure you can track this all down quickly (if you don’t feel like doing it all ahead of time).
- A couple recent pay stubs from your current job (or jobs).
- A letter from your employer validating your employment.
- Copies of your latest tax return from the previous two years, possibly three if you are self-employed.
- If you own your business, a copy of your articles of incorporation and a letter from a CPA or tax preparer (or financial advisor) stating that the home purchase will not hurt the financials of your business
- Bank statements
- W-2 statements or 1099s
Best of luck, Ash. Please keep me posted on how things progress!
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Farnoosh Torabi is America’s leading personal finance authority hooked on helping Americans live their richest, happiest lives. From her early days reporting for Money Magazine to now hosting a primetime series on CNBC and writing monthly for O, The Oprah Magazine, she’s become our favorite go-to money expert and friend.