Developing a Home Buying Strategy

March 26, 2023

No matter what’s going on in the real estate market, it seems like I’m always getting the question, “Is now the best time to buy a home?” Over the past several years, we’ve seen home prices soar at unprecedented levels. Specifically, home prices in the U.S. increased by 30% on average from 2020 to 2022. The average home price is now around $400,000. That’s a big chunk of change! And for most of us, it can cause us to rethink our home buying strategy.

How should you approach purchasing a home? It’s important to mention that it’s easy to make mistakes. A little research on the front end can save you lots of heartache. There are a lot of things to consider in order to make a wise purchase. At the same time, mortgage interest rates continue to climb after enjoying a lengthy period of all-time lows. That creates a feeling like you have to move quickly before those rates continue to creep up. But if you move too quickly, you could end up overpaying for that house or not considering the bigger financial impact on your life.

In this article we’re going to answer some questions like “Does renting make more sense?,” “Why are you buying in the first place?,” and “What’s your timeline?” We’ll also lay out what it looks like to have a solid home buying strategy in place, so that you make a smart buy.

Does Renting Serve You Better?

News flash! Buying a house isn’t necessarily the best option for everyone. Renting can be a better move for some people, depending on how long you plan to live in that location and your overall goals. Primary residences are sometimes awful investments.

Part of your home buying strategy should involve thinking about why you want to buy. Are your friends buying homes and you feel pressure because of it? Don’t fall into the comparison trap, following your emotions based on what your peers are doing. Remember, this is a personal decision. A home can be an incredible place to feel settled in a community or raise a family, but it can also become a burden that’s difficult to get rid of. That’s why it is vital to know if you are ready to be planted in a place for a while. Your likely ownership timeline matters a lot.

In addition to the lifestyle considerations, the financial aspect of your decision is paramount. For example, if you are drowning in other debts, have poor credit, or live in an expensive market, buying a house is likely an unwise choice. The same goes if your employment status is a bit tenuous. In some cases, it’s not about how great of an employee you are. Sometimes there are larger issues at play which can impact your industry, your company, and ultimately either your job status or salary. This can present a challenging situation if you are a single individual with just one source of income. In those cases, renting might be a better fit.

A big chunk of high-income earners are choosing to rent instead of buy. There’s nothing wrong with that decision! It might be best from a lifestyle and a financial decision for many of those individuals and families.

Why are You Buying a Home?

When contemplating major decisions in life it’s always a good exercise to determine your why. Regarding a home purchase, a few things to consider are whether you’ll be house hacking or if you’re simply looking for a single-family primary residence.

Ask yourself: “What’s the purpose of this house?” This is a crucial question to ask as it can significantly alter how you approach purchasing a home. 

House hacking can provide the opportunity to significantly reduce the cost of housing. Most folks never consider house hacking or moving out and renting their current starter home. But we want to challenge you to at least consider it – it could have a massive impact on your ability to grow your net worth. Depending on your personality, house hacking might sound like the worst idea ever. That’s OK! It’s not for everyone. Knowing the purpose of your home purchase before you begin your search and start making offers will guide the path you choose to take. 

What is Your Home Buying Timeline?

Perhaps the most important question for consideration as part of your home buying strategy is, “What’s your timeline?” This element is also impacted by whether you’re planning on house hacking or not.

For instance, if you are buying a two-bedroom, one-bathroom place and plan on having four kids in the next few years, you might not be there very long. So, knowing that you’re unlikely to be in this home for too long, it’s probably not a smart buy. 

Another scenario would be if you’re in the military and stationed somewhere for the next three years but have no idea where you’ll be after that, buying a home doesn’t make much financial sense in that scenario either.

It’s imperative to think through some likely scenarios regarding how long you think you’ll own the home you’re looking to purchase. A home ownership timeline of at least seven years is ideal. That’s largely because a shorter timeline could leave you underwater when you try to sell, depending on market conditions. Plus, the costs of buying and selling real estate are steep. 

However, if your plan is to convert to a rental then how long you choose to live in the home matters less. It’s really about how long you plan to own the home overall!

Have You Saved a Down Payment?

Ideally, we’d like to see folks be able to save up 20% of their home cost for a down payment. But if you’re buying a home as an eventual investment property, a smaller down payment is acceptable. If your home will provide cash flow as a house hack or you’ll be buying a multifamily home that will provide income, that 20% down payment threshold is a little less important.

If you’ve been renting for several years with the goal of owning a home, that’s great! But if you haven’t been able to save a dime towards a down payment, then buying a home needs to be put off. Being overleveraged is a common financial mistake, one that many people regret.  Saving up a 20% down payment will help you avoid the ever-pesky PMI, which can add quite a bit to your monthly payments – roughly 1% of the overall cost of the mortgage annually.

Basically, a smaller down payment will mean additional mortgage costs for multiple reasons.

While you might be able to afford the home today, can you afford it over the long haul? If you’ll be stretched every month to make the mortgage payment it’s not worth it. Additionally, you’ll need to factor in the cost of maintenance and upkeep into your home budget. A good rule of thumb is 1% of the purchase price. Meaning, if you purchase a home for $350,000, plan on setting aside $3,500 annually. Wasn’t life so much easier when you were renting!?

Credit Scores Matter – A Lot!

Part of the home buying strategy involves making sure your credit score is in great shape. With a higher credit score, you’ll qualify for lower interest rates and better lending terms. Working to improve your credit score could end up saving you thousands of dollars over the long run.

In fact, according to a recent Wall Street Journal analysis, an 80-90 point difference in your credit score could cost you $43,920 or more over the length of your mortgage. 

First, you need to know what your credit score is currently. Check out CreditKarma to view a couple of your scores (there are actually dozens of them in existence). One of the best features that Credit Karma offers is their scorecard tool, which provides you insight into how to improve your score – which is exactly what you want to be doing! 

What score should you be shooting for? You definitely don’t need a perfect credit score. That’s nearly impossible to achieve anyway. Most lenders will give you the best rate and terms with a score of 760 or higher. 

If your credit score is awful right now, don’t fret. There are ways to improve your score that will benefit your financial future. It’s not always easy and it can take quite a bit of time. But that hard work will pay off big time in the future as you’ll qualify for the best mortgage terms and interest rates. Side perk – you’ll also qualify for cheaper insurance rates in many states!

Shopping Around for Financing/Pre-Approval

Don’t be afraid to shop around for the best financing. This will take extra time, but it could easily save you thousands. This means getting apples to apples comparisons from at least three different lenders. Specifically target local credit unions and banks. Credit unions often offer the lowest rates and charge fewer fees for loans. Mortgage brokers are a great place to turn as well as they have the ability to shop with a slew of mortgage providers on your behalf.

It’s also essential to think about what type of loan you’ll be taking out. A 15-year or a 30-year mortgage? An FHA, Conventional, or ARM? There are all sorts of options that you can choose from. We’re not huge fans of FHA loans and an ARM can come back to bite you if interest rates move upward when your rate resets. Still, they can make sense given the right circumstances. The 30-year mortgage is what most folks choose – and it’s a great option!

Don’t forget to ask for a preapproval letter from the lender that offers you the best terms. As you start your home search, you’ll want official preapproval from a lender before you begin making offers. Remember, just because you are preapproved for a $500,000 mortgage doesn’t mean you should be buying a home that costs that much! 

That’s a common misstep for many in their home buying strategy. It’s similar to spending on your credit card up to the limit just because you can. Bad idea! Instead, figure out what works in your monthly budget. Be conservative, you don’t want to be house poor. If you’re stretching hard to buy the home of your dreams, it could soon turn into a nightmare money situation for you.

Consider Your Debt-to-Income Ratio

A debt-to-income (DTI) ratio is the percentage of your monthly gross income that goes towards your monthly debt payments. Lenders use this ratio to determine how risky you are as a home buyer. You’ll hear this term thrown around a lot during the homebuying process.

To calculate your DTI ratio, divide your monthly debt payments by your monthly gross income. For example, if you have a monthly mortgage payment of $1,500, a monthly car loan payment of $300, and a monthly credit card bill of $200, your monthly debt payments would be $2,000. If your monthly gross income is $6,000, your DTI ratio would be 33%.

Lenders get nervous when your DTI ratio is too high. They worry that you might not be able to afford the monthly payment every month. And rightly so! In most cases, 43% is the highest ratio a borrower can have and still qualify for a mortgage. However, your goal should be to have that DTI under 30%.

If you have a high DTI ratio, there are a few things you can do to improve your chances of getting approved for a loan:

Increase your income. Asking for a raise at work, getting a part-time job, or starting a side hustle. More money coming in each month helps in a big way.

Decrease your debt. Pay off all your credit cards, consolidate student loans, or refinance other loans in order to decrease those monthly payment amounts.

Buy a less expensive house. A cheaper house means a smaller loan amount. With a lower DTI, you’ll be at less risk of defaulting and getting yourself into financial turmoil.

Finding a Good Real Estate Agent 

Securing a seasoned real estate agent can make all the difference in your home buying strategy – especially if you are a first-time homebuyer. A solid agent will search the market for homes that fit your requirements and will lead you through the negotiation and closing process.

I know that Zillow and Redfin make it easy to look at homes for hours on end. That doesn’t mean that you’re ready to buy a home on your own. Your agent will not only show you homes, they’ll also help you make a smart offer, and negotiate shrewdly with the seller’s agent. You might think that going it alone will save you money – that’s unlikely!

Make sure you do plenty of due diligence here. Obtain agent referrals from your friends, family, and other recent homebuyers. Interview at least a few agents and request references. You might even want to ask about their experience assisting first-time home buyers in your market and how they plan to help you find a home. Check if the agent has any online reviews – Zillow is a great place to start! 

A qualified agent can make a major difference, not only in the price you pay, but whether you get the home you want or not.

The Bottom Line

As you can see, there are many things to consider in your home buying strategy. While this certainly isn’t a comprehensive list, these tips should help you get started on your home buying journey.

A big reason it’s so important to get the home buying process right is because a substantial portion of Americans’ wealth is tied up in their homes. And as folks get older, that percentage only increases. Households older than 75 have nearly half of their wealth tied up in their homes! This isn’t necessarily a good thing because it’s tricky to survive off your home equity when you retire. You can’t eat your house!

That’s why we suggest you develop a savvy strategy that suits your particular financial situation. We want you to be able to continue saving and investing through the years. But owning a home and building wealth can coexist beautifully!

Related Resources:

Beer tasting notes:

beer we tasted when talking about home buying strategy

While we talked about building a home buying strategy we enjoyed a La Bonte with Figs by Wicked Weed! And as we’ve ramped up the podcast with an additional Friday episode every week, we could really use your help to spread the word- let friends and family know about How to Money! Hit the share button, subscribe if you’re not already a regular, and give us a quick review in Apple Podcasts or wherever you get your podcasts. Help us to spread the word to get more people doing smart things with their money in these difficult times!

Best friends out!

Leave a Reply

Your email address will not be published. Required fields are marked *