First-Time Fundamentals and Facts
Coaching the Novice Buyer About How to Be a Responsible, Informed Home Buyer
By Michele Lerner
Economic forecasters and Realtors® are looking to first-time home buyers to lift the housing market this year. They recognize that low interest rates, an abundance of inventory and more affordable prices should be drawing in these buyers who do not have the burden of selling a home in a down market.
But first-time home buyers are understandably hesitant to take the plunge into homeownership, often because of a lack of knowledge about the home buying process combined with a fear of financing obstacles. Yet local lenders attest to the fact that, in spite of media reports to the contrary, money is available for these consumers.
Of course, borrowers with savings in the bank, a steady income and a good credit score will have the easiest time obtaining financing. But even borrowers with less than perfect credit and a limited savings can often qualify for an FHA (Federal Housing Administration), VA (Veterans Affairs) or VHDA (Virginia Housing Development Authority) program.
Janice Burgess, a loan program manager with VHDA, says, “Realtors® should start working with first-time home buyers by recommending that they take a home buyer’s education course. The clients will be better prepared for the home buying process and they will be easier for the Realtor® to work with, too. The classes are often a requirement of qualifying for a loan through VHDA or for down payment assistance through local government programs.”
A schedule of VHDA’s home buyer seminars, offered frequently in Northern Virginia locations, can be found at www.vhda.com. VHDA has an online version of its seminar in addition to the six-hour classes.
Burgess points out that for the majority of programs, including federal programs and VHDA programs, a first-time home buyer is defined as someone who has not owned a home within the previous three tax years.
FHA Funding Facts
“One of the biggest challenges for first-time home buyers is to accumulate enough cash for a down payment,” says Burgess. “We offer an FHA-Plus loan, by far our most popular program, because is still offers 100 percent financing, which is highly unusual in this market.”
FHA loans require a 3.5 percent down payment. The VHDA FHA-Plus loan allows consumers to borrow an additional 5 percent of the home’s value for the down payment and closing costs.
FHA loans do not have income limitations, but they are only available in the Northern Virginia area for homes priced at $625,500 or less. VHDA’s FHA-Plus loans, geared to make homes more affordable to low and moderate income families, are restricted in Northern Virginia to homes priced less than $408,100 and to households with a maximum income of $86,900 for one or two people or $100,000 for three or more members.
Paul Defngin, a mortgage consultant with Nationwide Home Mortgage in Rockville, says FHA loans are a great option for first-time home buyers without the savings to make a significant down payment.
“On FHA loans, the whole down payment can be gifted by a relative,” says Defngin. “Also, although seller down payment assistance is no longer allowed, there are still state bond programs available to help first-time home buyers, such as the VHDA program.”
Bob Gill, a senior loan officer with Met Life Home Loans in Fairfax, says that FHA loans are by far the most popular in today’s market.
“Recently I heard so-called experts talking on a financial program say that mortgages are only available now with a credit score in the high 700s and a 20 percent down payment,” says Gill. “This is just completely false, since FHA loans are available to buyers with credit scores in the 600s and even a bit lower.”
Gill points out that in this market there is a general expectation that closing costs will be paid by the seller, so the total cash needed at closing for an FHA loan is 3.5 percent. On a maximum FHA loan of $625,500, the down payment requirement would be $21,892, but for a $400,000 home, the amount required is $14,000.
Buyers who make a down payment of less than 20 percent and obtain a conventional loan are required to pay private mortgage insurance (PMI), which insures the lender against loss if the borrower defaults on the loan.
Defngin says, “A first-time home buyer procuring an FHA loan will be required to pay an upfront mortgage insurance premium of 1.75 percent of the sales price to the Department of Housing and Urban Development. The good thing though is that HUD allows this upfront premium to be financed into the loan. Buyers will also pay a monthly federal mortgage insurance premium that currently is set at .55 percent of their final loan amount.”
Gill explains that conventional loans which require PMI are rarely approved for less than 10 percent down because PMI companies are skittish about the declining values of homes.
Stephanie Crabtree, regional sales and production manager for Member Advantage Mortgage, which provides loan services for credit unions including the Belvoir Federal Credit Union and the Commonwealth One Federal Credit Union, cautions that lenders and PMI companies do not share the same guidelines.
“Sometimes it can be a challenge, even when the mortgage has been approved, to find a mortgage insurance company to approve the loan,” says Crabtree.
VA Perks for Military Personnel
Another option for first-time home buyers is a VA loan, which is available only to veterans and current military members. Crabtree says VA loans are the best option for military clients because they do not have a minimum credit score or debt-to-income ratios.
“The VA loan program is true 100 percent financing,” says Defngin. “No down payment is required for this program, and similar to the FHA program there is an upfront VA funding fee which ranges from 1.25 percent to 2.4 percent depending on the type of veteran and his or her down payment if the person chooses to do so. The government wants our qualified veterans to be homeowners, and this is such a great program that allows them to buy their first home with no money down. However, unlike the FHA loan – there is no mortgage insurance, which makes it very attractive for first-time home buyers who are eligible for this program.”
One more program suggested by Defngin is the United States Department of Agriculture (USDA) loan program for rural properties.
“Most consumers don't realize that even though we are in a metropolitan area, there are parts of Maryland and Virginia that are considered rural,” says Defngin. “This program also allows for 100 percent financing. To be eligible, a first-time home buyer may have up to 115 percent of the median income in the area where he or she is purchasing the home. There is also a loan limit for each county. For example, a buyer purchasing in Culpeper County can finance up to $290,300 [there].”
Raise Your Score: Credit Counseling Can Help
Crabtree, as do most lenders, provides credit counseling services to customers to help them develop a plan to qualify for a mortgage.
“Credit is a big factor right now and people with good credit have a lot more options than borrowers with credit scores under 660,” says Crabtree. “Borrowers with lower credit scores can qualify if they have other compensations such as a good debt-to-income ratio or strong cash reserves, such as at least six months of mortgage payments in the bank.”
Crabtree says that Realtors® should encourage potential home buyers to meet with a lender, preferably their primary financial institution, at least three months prior to buying a home so they can review their financial situation and work to improve their credit score.
“Most lenders will review someone’s credit for no fee and will work with the customers to improve their credit,” says Gill. “Clearly, it benefits lenders when they can approve someone for a loan, so we are willing to invest our time with people. Even if someone had a bankruptcy two years ago, lenders will explain that FHA loans usually require a wait of three years after bankruptcy and loans guaranteed by Fannie Mae and Freddie Mac require a four-year waiting period.”
Generally, Gill says consumers need to pay off outstanding collections, since these stay on the credit report for six or seven years. He also suggests paying off credit card debt so that each credit card has a balance of less than one-half the limit.
“If you have two cards with a $5,000 limit on each and a balance of $3,000 on each card, it will improve your score more if you pay each one down to less than $2,500 rather than simply [pay] off one,” says Gill.
Burgess explains that credit scores are affected by how much credit is available and how much of that credit is in use.
Crabtree also recommends keeping credit card debt to less than 30 to 50 percent of the limit and says that it is imperative that people pay their bills on time, particularly mortgages and student loans, which are government-backed.
Save All Paperwork
“If anyone has an outstanding collection, [he or she] should pay it off and then insist on receiving a deletion letter which says the collection will be removed from the credit report, not just a letter which says it has been paid,” says Crabtree. “Consumers need to be vigilant about keeping copies of everything related to their credit report to correct errors.”
Burgess agrees that the key to improving a credit score is paying all bills on time.
“Credit scores look at your most recent history, so a couple of late payments from two years ago won’t hurt you nearly as much as a late payment in the previous few months,” says Burgess. “The severity of any late payments also matters. One 30-day late payment is not so bad, but three 90-day late payments can severely damage your credit.”
Burgess says that while conventional mortgage loans require credit scores in the upper 600s and higher, FHA and VA loans are much more lenient, without any specific minimum score.
Gill points out that lenders receive a more detailed credit report than the one provided to consumers, so they can be more effective in providing specific advice on improving the score.
First-Timer Tax Credit
Buyers, who purchase a home before July 1, 2009, can take advantage of the first-time home buyer tax credit, part of the federal government’s 2008 Economic Stimulus Package.
“The tax credit works like an interest-free loan, since it does have to be paid back over 15 years, at a rate of $500 per year,” says Gill. “Buyers who purchase a home priced at $214,200 and make the FHA-required 3.5 percent down payment will need about $7,500 at closing. They can take this as a credit on their taxes and then pay it back over time without interest. This should be a benefit to many buyers.”
Defngin says that first-time buyers who are single and have an adjusted gross income of $75,000 ($150,000 for married couples) or less qualify for the full tax credit. Singles with an income of $95,000 and married couples with a combined income of $170,000 or higher, are not eligible for the tax credit.
The tax credit is not available to borrowers who use VHDA financing since those programs are funded by tax-exempt bonds.
“Consumers who need VHDA financing are usually better off with the VHDA loan rather than the tax credit because they need the down payment assistance,” says Burgess. “If they have a higher income, they may need the tax credit more.”
Defngin says that today’s first-time home buyers should be able to obtain financing as long as they have verifiable income, some savings and reasonably good credit. Lenders can offer substantive, individualized advice that can help potential buyers qualify.
Crabtree offers this final piece of advice: “Realtors® should remind their clients to check back with their lender every 30 days to make sure that their pre-approval letter is still working, since loan programs are reevaluated constantly these days.”
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Improving Your Credit Score
The Consumer Federation of America says that consumers can raise their credit scores in a variety of ways, including;
· paying bills on time consistently
· avoiding the credit limit on credit cards
· paying off debt rather than just moving it around from one credit account to another
· timing the opening of new accounts so that they are during different quarters
· checking credit reports regularly, which can be obtained for free from all three credit-reporting bureaus. Free credit reports can be requested annually at
www.annualcreditreport.com
Basis for Credit Score
According to
www.bankrate.com, credit scores are generated based on the following factors:
- Payment history (35 percent): Paying on time consistently boosts your score; paying late or less than the minimum hurts your score.
- Amount you owe and amount of available credit (30 percent): Credit reporting agencies look at the level of debt you have and also how much credit is available. Too much available credit is a red flag since people are likely to use their available credit.
- Length of credit history (15 percent): Not only does this look at how long you have had a credit report, but also how long you have had credit with a particular company. In other words, keeping your first credit card account active and diligently making monthly payments is a good move; avoid switching from card to card.
- Mix of credit (10 percent): Credit agencies think a mix of revolving credit (credit cards) and installment credit (car loans, mortgages) show you can handle credit.
- New credit applications (10 percent): The agencies take into consideration that someone may be looking for the best mortgage or car loan and therefore have made multiple applications. What creditors don’t like is someone repeatedly applying for more open lines of credit. Shopping at the mall and accepting a 10 percent discount on your purchases with new credit cards at Macy’s, Gap and Best Buy is not the smartest financial move. The downward pull on your credit score is not worth the savings.