How Much Money Do You Need to Save to Buy a House?
You’ve been diligently saving, and that savings account you’ve amassed looks pretty healthy. Now you’re ready to take the plunge and buy your own home. But have you considered all the items you’re going to need cash for between now and closing the deal? Are you sure you have enough?
Earnest Money Deposit
Earnest money is pretty much what it sounds like — cash placed on the table at the beginning of the deal to let the seller know you’re serious about buying his home. It’s payable when the seller accepts your offer and is applied toward the down payment at settlement. It can range from 1 to 3 percent of the purchase price. If the homeowner is eager to sell, he may accept less, but if you’re competing against other avid buyers, you might want to offer more to help secure the sale.
The Down Payment
This is the big one — up to 20 percent of the home’s sale price — but the amount can depend on the type of mortgage you take out. Conventional loans guaranteed by Fannie Mae or Freddie Mac usually require that you put down at least 5 percent, but you can get away with only 3.5 percent for an FHA loan if you have decent credit. You'll likely have to pay for private mortgage insurance if your down payment is less than 20 percent, which can considerably add to your monthly mortgage payments.
Closing costs are due at settlement and are in addition to the down payment. They typically run from 2 to 5 percent of the purchase price, but here’s the good news: The seller might agree to pay some of these costs. This is called a “seller’s concession.”
“Buyers almost always pay closing costs,” says Brian E. LeBow, Sales Manager at Coldwell Banker Dynasty in Temple City, California. “But many agents will try to get sellers to pay a portion of these costs in noncompetitive situations. Closing costs should not be requested when there are multiple offers,” LeBow advises.
Your lender may require you to have surplus cash in the bank at the time of closing before they’ll approve you for a mortgage. This is money left over after accounting for the down payment and closing costs. Lenders want to know that you have enough cash on-hand to make at least one, if not several, mortgage payments; this can be an important component of the pre-approval process.
“Lenders want to see that the funds are from your own accounts and that they’re 'seasoned' — they’ve been growing there for a while,” says LeBow. “If the money suddenly appears, lenders will want to know the source of the funds and a ‘gift letter’ might be required to explain the source, such as if your family helped with the funding.”
Pre-approval occurs when the lender confirms that your financial information to qualify for a mortgage is indeed accurate. Lenders check your credit score and look to your debt-to-income ratio, as well as the loan-to-value ratio — how much of the home's purchase price you need to finance compared to the property’s appraised value. This is affected by the amount of your down payment. Lenders also typically want to see that you have cash reserves to pay the mortgage in the event of an emergency. Pre-approval isn’t a loan commitment, but it does tell you how much you're likely able to borrow, so you can tailor your home search accordingly.
Earnest money is part of the down payment, and having a financial cushion in the bank is always a good idea even if your lender waives the cash reserves requirement. But if you find you'll need more money than you originally thought to buy a house, get some help from Quicken Starter Edition to nip and tweak your budget and free up more savings.