You have many options for financing when you’re buying a home, but to find the right financing, you must know what type of homebuyer you are first. Each loan program works for different scenarios.
You’re either a first-time homebuyer, subsequent homebuyer, vacation homebuyer, or investment homebuyer. Each situation brings different scenarios to the lender and leaves you with different qualifying requirements.
If you’re a first-time homebuyer you either haven’t owned a home before or you haven’t owned a home in the last 3 years, which may be the case if you experienced a foreclosure or bankruptcy.
First-time homebuyers often have more incentives because they don’t have a large amount of funds to put down since they don’t have an asset to sell.
As a first-time homebuyer, you may be eligible for low down payment options (conventional loans 3% and FHA loans 3.5%) and many first-time homebuyer grants to help you with the down payment.
Because you’ve never owned a home before (or it’s been 3 years), you must prove you can afford the loan with the following:
- Decent credit scores (620+ for conventional and 580+ for FHA)
- Enough income to cover the mortgage and your current debts without exceeding a 43% – 50% debt-to-income ratio
- Stable employment
- Assets on hand to cover the down payment, closing costs, and to have reserves on hand
Upgrading or Downsizing Buyer
If you own a home now, you are a subsequent homebuyer. Whether you’re upgrading (buying a larger house or different type of house) or downsizing (going smaller), you have a home to sell, will have a large down payment, and may have a housing payment history lenders can rely on to decide if you’re a good risk.
When you’re a subsequent homebuyer, you must still qualify for the loan with the same factors, but your housing payment history will help you qualify for the loan too. Proving you can afford a mortgage and handle it responsibly does a lot for your chances of approval.
If you have a lot of equity in the home and you’ll use it as a down payment, it makes qualifying for a mortgage even easier. Lenders like it when you have ‘skin in the game’ meaning you invest your own money alongside the money they lend you.
Buying a Vacation Home
If you own a primary residence and have money to buy a vacation home, there are loan options for you, but they will have tougher restrictions to qualify and higher interest rates/fees.
A vacation home isn’t where you live. If you run into financial issues, the first thing you’d likely default on is your vacation home. If you lose your vacation home, you won’t lose the house you live in, which is important (obviously).
Lenders have programs for vacation or second homes, but they often require larger down payments (20% – 30%) plus great credit to qualify.
Buying an Investment Home
Investing in real estate is one of the most lucrative investments you can make. If you’re looking for a way to diversify your portfolio, real estate can be a great addition. It doesn’t react like the stock market, meaning if the stock market tanks, it doesn’t mean your real estate investment will too. Most real estate investments bounce back even after a loss in value.
Like vacation home loans, investment property loans have stricter requirements including great credit and a large down payment. If you plan to rent out the home and have experience in renting, it will help your chances of approval.
As a landlord, you earn monthly cash flow from the rent, which you can use to pay the mortgage and other operating expenses of the home.
Before you apply for a mortgage, determine what type of homebuyer you are first. Each bank or lender has different options based on the type of home you’re purchasing. If you’re a first-time homebuyer, look for first-time homebuyer incentives including low down payment options.
If you’ve owned a home before or are looking to add to your current real estate portfolio, you’ll have fewer options, and need your finances in order including a large down payment to make the lender feel as if you can make good on the debt even with the risk it incurs.