Many people consider buying a house to be the finish line after conquering the hurdles of debt. But that doesn’t always have to be the case. Yes, buying a house is one of the more difficult achievements, especially when you’re sitting on a mound of debt, but that doesn’t mean it’s impossible. You can buy a house if you’re already in debt. Even if you currently have too much debt to seal the deal, these tips will get you closer to the finish line:
Knowing Your Debt-to-Income Ratio
Be aware of your debt-to-income ratio. This is your total monthly debt divided by your gross monthly income. For example, if your monthly debts total $1,000 and your gross monthly income is $4,000, then your debt-to-income ratio is 25 percent. Calculating your debt-to-income ratio is important because lenders use this information to determine your ability to repay the borrowed amount, and therefore, decide how reliable you are as a borrower.
Lenders prefer your ratio to be below 40 percent. Consequently, if your ratio is above 40 percent, you should consider paying off more debt before buying a home; a high ratio doesn’t look good to lenders, and your finances most likely couldn’t handle the added strain.
Saving a Down Payment
Many people avoid buying a home because they think they need a 20 percent down payment. Although that number is recommended, it isn’t required. There are mortgage lenders who are willing to work with you to find a down payment price that works specifically for you. For a conventional mortgage, you usually need a 5 percent down payment. So, don’t get caught in a panic that you will never be able to afford a 20 percent down payment. There are other options.
However, note that the more money you put down, the better your interest rate is going to be and the less you will pay for your house in the long run. Although it is possible to get a smaller down payment option, there are definite perks to putting down a decent amount. Whatever your decision, there are down payment strategies to help you get the home you want without having to drain your entire bank account. And if a smaller down payment fits into your budget, your current debt doesn’t have to stand in the way of you buying a house.
Creating a Budget
If you’re going to add more debt to your current debt, you need a budget. Consider doing an audit of all your bills. Find places you can cut down your spending and create a consistent budget to stick to. More money means less debt, and that’s good news for your house goals. Compile a new budget, calculate housing costs, and decide if buying a house fits into your budget. If you determine you can afford a home, make sure to reevaluate your budget after purchasing your home. Your finances are going to change dramatically, and you don’t want to be over your head with an old and irrelevant budget. As your financial situation changes, so should your budget.
Not Being “House Poor”
You don’t want to go into purchasing a house without the necessary plans and funds. Although you may be able to afford buying a house, even with debt, that doesn’t necessarily mean you should jump at the chance right away. Often, people will see their budget line up with housing costs, and they will immediately take action. Unfortunately, this leads to what people call being “house poor.” Basically, if your down payment, potential mortgage, and house costs are going to milk the entirety of your budget, leaving you little left over each month, you are going to be “house poor.” Owning a house is a huge asset, but it may not be worth it if it is taking almost every cent you have each month.
It may be better to hold off on buying a house until you have your debt and financing under control. The typical mortgage vs. salary statistic advises your mortgage to be no more than 33 percent of your income. If your potential mortgage exceeds that, heavily consider opting out of purchasing a home. Take time to focus on your current debt and pay some of it off before taking on a larger new one. Even if your mortgage is just below 33 percent of your income, you might still consider putting a house purchase off until that percentage decreases a bit. A percentage this high could make being “house poor” unavoidable.
Staying Below Your Price Range
If you are approved for a home loan in spite of your debt, don’t take the highest loan amount and make a run for it. Especially if you have good credit, banks will often offer you a loan amount that you don’t necessarily need. Just because you qualify for such a large amount, that doesn’t mean you should use all of it. Be frugal with your offer. Look for houses below your budget so your loan won’t be larger than you can handle in the future.
Buying a house at the peak of your budget could stretch you paper thin, maybe even forcing you to eventually give up the house you worked so hard for if you have to take on other unexpected expenses in the future. If you have a smaller loan and decide on a house below your price range, you can avoid being “house poor,” giving you extra money to put into other costs such as home improvements or an emergency fund.
Considering Additional Options
If you are worried about making ends meet after adding a house to your current debt, consider other options. A popular choice is renting out the basement of your potential home for periods of time when you need extra cash. Having already purchased the house, having someone pay you rent would give you an additional income, which could help you cover your debt and other expenses.
Although this is a useful way to make more money, don’t rely on this option alone. There are possible downfalls, such as having difficulty finding a renter or your renter suddenly moving out. To avoid this, sign a lease agreement stating the details of the length of the renter’s stay and the amount they will pay. Also, if you are going to count on this additional income to help you get by once you buy the house, have a renter lined up before you purchase the house. You don’t want to be stuck scrambling to find a renter when you have bills to pay.
Exchanging Small Investments for Future Money Saved
People often buy a house thinking the initial cost is all they have to worry about. That most definitely isn’t the case. When you trade in renting for owning, it is now your responsibility to fix any damage or malfunctions around the house. One way to prepare for this is to purchase a home warranty when you buy your new home. Home warranties cover systems and appliances such as refrigerators, air conditioning systems, heating systems, etc. You can even create your own plan to cover only your preferred systems and appliances.
Unexpected breaks or malfunctions around the house could mean a big dip in an already struggling emergency fund. Making small investments such as this one could save you money in the future. If you decide a home warranty is right for you, take a look at the best home warranty companies and get a jump on this protection. Having peace of mind and extra protection often proves to be beneficial to homeowners and can save you money in repairs.
Using Other Debt Help
Adding house expenses to your current debt is going to be more responsibility, so you need to be well prepared and organized by making sure you have all of the debt assistance you need. If your current debt is already overwhelming and unmanageable, you need to take all of the assistance you can to get your debt under control before buying a house.
Consider seeking professional help from debt experts to help get your finances under control. This would most likely cost additional money, but it might be a worthwhile sacrifice if it can get you closer to buying a house in the future. Or, if you don’t think you need that degree of assistance, consider downloading a debt managing app to save you time and money. These apps walk you through get-out-of-debt plans, financial updates, bill reminders, etc. It is a great way to handle your debt before taking on a new one.
Avoiding Taking on Other Debts at the Same Time
If you do decide that buying a house will work for you despite your current debt, we would advise not accumulating any additional debt for a while. For example, if you have other debts you are looking to take on in addition to a home, such as a new car or starting a business, consider taking on one debt at a time and leaving the others for the future. If you add another loan, especially if it is a business loan, your finances may not be able to handle it.
Based on your circumstances, you may have little choice but to take on two loans at once. If you decide to take on another debt in addition to a new home, look into other options to make it easier on your finances. For instance, if you are going into business, look into setting up a merchant account and applying for financial assistance such as invoice financing or merchant account company cash advances. These options allow lenders to give you advances in your funds, but keep in mind this might result in higher rates and fees.
Although you may have extenuating circumstances, ultimately we suggest avoiding doubling up on additional debt.
Being Aware of Your Credit
Understanding your credit is a major stepping stone in deciding whether you should buy a house while already in debt. If you have poor credit, you may have to take more time building your credit back up before purchasing a home, especially if you don’t qualify for a decent home loan.
Regardless of how often you use your credit, it is essential to stay apprised of your credit score and all the factors that go into it, e.g., payment and credit length history, accounts in use. Experts report that one in every five Americans has a credit report mistake that negatively impacts their credit, so do everything you can to be aware of your credit and prevent such a situation. Keeping your credit card information secure, checking your statements often, and regularly taking advantage of free credit checks can save you time and stress, especially on a big purchase like a house. You don’t want to wait to see your credit report when you are being told you don’t have the credit score you need to have to buy a house. Or worse, there is a credit discrepancy you weren’t aware of because you didn’t regularly check your credit.
Making sure you are aware of your credit is one precaution. Another important detail is understanding what credit score lenders prefer when providing mortgage loans so you are aware of credit standards. Although credit expectations vary based on the lender, the most commonly followed is the FICO score model as follows:
- Excellent: above 750
- Good: 700 to 749
- Fair: 650 to 699
- Poor: 600 to 649
- Bad: below 600
Creditors usually wouldn’t offer mortgage loans for a credit score under 620, but that number is actively rising. If you are accepted for a loan with a bad credit score, it may be the better option to put off buying a house to take time to build your credit. Even with an accepted loan and a lower credit score, you will pay a substantial amount in interest rates.
You should put off buying a house if the following apply to you:
- Your income is unstable
- You don’t have money for a down payment, resulting in higher interest rates and closing fees or the complete inability to buy a house at all
- You haven’t thought it through and are ill-prepared
- Your potential mortgage is more than 33 percent of your salary
- Your debt-to-income ratio is greater than 40 percent
- Your credit doesn’t provide you with a home loan interest rate that you desire or you don’t qualify for a loan altogether
Regardless of your current debt, buying a house would be feasible if the following apply:
- You have a budget and can stick to it
- Your expenses and debt don’t outweigh your income
- You can live below your means by buying under your budget
- You are managing your current debt well through the use of professional help, debt managing apps, etc.
- You will not be “house poor” after taking on a mortgage
- You have enough money to put towards a down payment
- You have investment and money-saving options, such as a home warranty and basement rental opportunities
- You have a credit score that can get you a decent home loan
Whether you should buy a house while in debt depends on your situation, but consider these factors to determine if it’s the right time for you. Even if you have too much debt to buy a house right now, that doesn’t mean the finish line is unreachable. Stay on top of your debts and as they decrease to a manageable amount, revisit purchasing a house. Remember, don’t rush the process; unlike a typical race, there is no time limit to this one.
If you want to know more about your credit, you can check your three credit reports for free once a year. To track your credit more regularly, Credit.com’s free Credit Report Card is an easy-to-understand breakdown of your credit report information that uses letter grades—plus you get two free credit scores updated each month.