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July 13, 2017

Home > Blog > 7 of the dumbest things people do with their money before they buy a home

Young Americans are delaying homeownership because they're burdened with student loan debt, waiting longer to get married and have kids, and spending more on renting. Some are still living with their parents — especially in certain parts of the country.

Waiting longer to buy a home means there's plenty of time to prepare financially if homeownership is on your list of life goals.

Below, we've outlined seven of the dumbest money moves to avoid before you buy a home:

1. Expect to get a big return.

If someone asks why you want to buy a house and your first answer is something along the lines of "Because I'm wasting money on rent," or "Because it's a good investment," you might not be mentally prepared for all the responsibilities that come with home ownership. At the end of the day, buying a home isn't a means of getting rich.

"When you look at the average price increase of a home across the country over the last 100 years, it's only about 3%," Eric Roberge, founder of Beyond Your Hammock and a certified financial planner, told Business Insider. "If you take away extra costs plus inflation, you're not really making any money on average on a single family home."

It's smarter to look for an affordable house that meets non-monetary goals: It's in your dream neighborhood or it's a good place to start a family.

"A home is a utility, not an investment," Roberge said.

2. Combine too many life events at once.

New beginnings are great, but combining too many life events at once can quickly derail your finances.

Think getting married, adopting a puppy, having a kid, and buying a house all in the same year. Each of these comes with unexpected costs that can eat up your savings if you're not prepared.

Working toward your financial goals takes time and should happen at your personal pace, not at a time when it seems like it should happen or because everyone else is doing it.

3. Use emergency savings for a down payment.

When it comes to buying a home, the more you have in savings, the better. But the money you're putting away for a down payment — ideally 20% of the price of the home — should remain completely separate from your emergency fund, which is three to nine months of expenses earmarked for when something goes wrong.

"No matter how well you plan or how positively you think, there are always things out of your control that can go wrong," self-made millionaire and bestselling author David Bach writes in "The Automatic Millionaire."

Instead, it's best to keep your home savings somewhere else safe and liquid, Bach told Business Insider, particularly if you're looking to purchase in about three years.

4. Invest your down payment in the stock market.

Investing the money you're saving for a down payment might seem like a good idea, especially if you're trying to reach your goal in a short time frame. But according to Bach, that's a risk not worth taking.

"I'd tell you, put it in a money market account, and the reason is this: There's nothing more painful than saving for a down payment for a home and having the market go down," said Bach, who has spent 25 years in the wealth management industry.

"When it's a short-term time horizon, which is what three years is — three years is almost like tomorrow — you're better off to have safety and liquidity and see yourself making progress every month and not be losing sleep over it," he said.

In addition to security, a money market account could earn an interest rate of 1%, compared with the much lower 0.01% on a traditional savings account. These accounts can offer a higher interest rate because they usually require a minimum balance, which can vary widely depending on the bank (and if you dip under the minimum, you may incur a monthly fee).

A high-interest, online savings account yields a similar return.

5. Not work consistently.

In preparing to buy, you need to make sure you have at least nine months to a year of consistent income in order to qualify for a mortgage, Dana Bull, a realtor with Sotheby's International in Boston, told Business Insider.

"Oftentimes, I'll have a buyer come to me and he's like, 'I just got a new job, I started my own business, I'm going to be a photographer, and I want to buy a house' and it's like, 'Well, you kind of shot yourself in the foot because now you don't have the income proof to back up your loan,'" she said.

Bull suggests talking to a lender at least two to three months before you're ready to buy, so you can find out what you need to do — or how much longer you'll need to work — to qualify for a mortgage in your price range, or simply to talk about the financial options available to you.

6. Have too much outstanding debt.

When you apply for a mortgage, your interest rate for paying back the loan will depend partially on your credit history. If you have outstanding debt, it's not going to be a good time to lock in an interest rate.

"A big thing when it comes to your mortgage is being able to qualify for the best interest rate you can," Sophia Bera, CFP and founder of Gen Y Planning, told Business Insider.

"Think about it: If you're going to have this loan for the next 15 to 30 years, you're going to be paying a ton of interest, tens of thousands if not hundreds of thousands of dollars on that loan," she said. "So a difference in interest of a quarter of a percent or half a percent or one percent makes a huge difference over the life of the mortgage."

While you can monitor a close approximation of your credit score throughout the year on sites like Credit Karma and Credit Sesame, Bera said it's worth paying a small fee to get your exact FICO score when you're preparing to buy a house. FICO scores are credit measures widely used by lenders to determine interest rates, and a high FICO score can help you secure the most reasonable ones.

"Really pay attention to credit, especially in the six months leading up to getting ready to buy a home," Bera said. "This is not just a month before, scrambling and then realizing, 'Oh my gosh, I have something old in collections!' Once you take care of that it usually takes a couple of months to be reflected on your credit score."

7. Miscalculate how much you can afford.

Before you start thinking about kitchen appliances and how many bedrooms you need, it's important to determine how much mortgage you can reasonably afford, reports Business Insider's Lauren Lyons Cole, who is a certified financial planner.

But on top of the mortgage payment, you'll also have taxes, insurance, utility costs, and ongoing repairs and maintenance, so you need to calculate the true monthly all-in cost of homeownership before committing.

That doesn't mean talking to a real estate agent or mortgage broker, since their compensation is typically tied to the price of the home. Even well-intentioned friends and family may push you to spend outside of your comfort zone. The best approach is to do some simple calculations based on your own financial situation.

The standard measure of housing affordability is 30% or less of your pre-tax income, but it's not a hard and fast rule. If you limit your monthly mortgage payment to even less, say 30% of post-tax income, then you'll have more money to put toward other financial goals and fun purchases, like travel and dining out. If you have student loans or other debt, you may want to limit your mortgage payment even further if you can, such as 20% of post-tax income.

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Below, we've outlined seven of the dumbest money moves to avoid before you buy a home: