- The Washington Times - Wednesday, June 21, 2006

First-time home buyers may not recognize this fact, but they are very lucky to be searching for a home to buy now, rather than during recent months when the market was frenzied. Now that the pace of the home-buying process has slowed, buyers new to the real estate market can spend more time educating themselves about the financial aspects of purchasing a home, can search for the right property at a more leisurely pace and can review the results of a home inspection to be certain they understand how to maintain the new home and its systems.

As recently as 2005, buyers were often forced to compete for a limited number of properties. Now more properties are for sale and fewer buyers are competing for the properties.

“Buyers now have the time to educate themselves, the choice of plenty of properties for sale and the ability to have a home inspection,” says Sharyn Goldman, a Realtor with Long & Foster Real Estate in Bethesda.

“First-time buyers in particular need to hire a buyer agent with the time and experience to counsel them when looking for a property.”

Before jumping ahead into the property search, renters who believe they are ready to purchase a home must meet with a lender and choose a Realtor to represent them and to provide guidance in what is, for most people, the largest investment they will ever make.

Whether it makes sense to find a lender first or to find a Realtor first can be sort of a chicken-or-egg question for first-time buyers. Many buyers find a Realtor first, then follow the Realtor’s recommendation of a lender. Other buyers meet first with a lender, then follow the lender’s recommendation for a Realtor or the recommendation of other professionals and colleagues.

“The best referral for a Realtor or a lender is one from a satisfied friend,” says Mrs. Goldman. “It’s better not to just look on the Internet or at ads because it can be hard to get a feel for how experienced someone is.”

Buyers who meet a real estate agent at an open house need to understand that the agent represents the seller of that particular property. Buyers need to find an agent who will represent their interests when it comes to negotiating the contract.

Buyers should interview more than one real estate agent to learn as much as they can about home buying and to find an agent with whom they will be comfortable.

Occasionally, buyer’s agents charge a small flat fee directly to the buyer for their services, but the majority of the time the fee for the buyers agent is paid at settlement by the home seller.

For buyers, there should never be a reason not to work with a real estate agent who will be their educator and advocate without a cost to them. Buyers and their agents normally sign a contract that explains this relationship and commits the buyer to working with the agent to purchase a home.

Mrs. Goldman often includes a lender at her first buyer presentation so that the buyers can get an idea of the financing right from the beginning. Buyers should plan to meet with a lender as soon as possible to obtain a pre-approval letter for a loan, since few sellers will consider accepting an offer without proof that the buyer can obtain a mortgage.

“At the first meeting with buyers, I take a loan application from them, asking them for information about their income and assets,” says Jason Klein, president of Diamond Lending Corp. in Rockville. “Then we can almost immediately determine the maximum that they can afford for a property either as a dollar amount for the purchase price or as a monthly mortgage payment. After we determine how much they can qualify for, we talk about the loan programs which are available to meet their needs.”

Mr. Klein says most first-time buyers are unfamiliar with the loan products that are available and also have no feeling for what the monthly loan payment will be or for the process of going from the loan application to the approval to the closing.

In general, borrowers need to gather all the documentation they have for their income and assets such as bank statements, a recent pay stub and W-2 forms for the initial loan approval.

“A strong loan commitment can be made based on the income and assets and a check of the credit report, but the final loan approval must be made for a specific property after an appraisal of that property,” Mr. Klein says.

A credit report will be viewed with the initial loan application, which will provide information on current debts and a credit score that can help determine the applicant’s qualification for a loan.

Sometimes a credit report will show incorrect information, so it is best to clear up any issues with the credit report before beginning to search for a home to purchase.

Mr. Klein says typically the best interest rates are available to borrowers with a credit score of 620 or higher, but home buyers with lower scores can often compensate for the score with a larger down payment.

They can also qualify for loan programs with slightly higher interest rates.

“Consumers should be very careful in the year or so leading up to the purchase of a home to be sure their credit score is good,” Mr. Klein says. “Basically this means not being 30 days late with any bills and making sure that any credit cards are not maxed out.

“If you have a card with a $15,000 limit and you have used all that credit, it can negatively impact your score,” he says. “You can either try to pay down the credit card, or consolidate the debt onto another card with a higher limit to free up the credit on that card, or even call the credit card company and ask them to extend the credit limit to a higher amount.”

In addition to the credit score, income and assets, lenders determine a “debt-to-income” ratio as part of the loan approval process.

“In general, the standard back-end ratio is 45 percent, which means that the combined new mortgage payment and the minimum monthly payments for any other debt should be no larger than 45 percent of the gross monthly income,” Mr. Klein says. “But these ratios are really a moving target. Borrowers with excellent credit scores and lots of down payment money can have a higher back-end ratio.”

First-time buyers also should be sure to ask their lender, their Realtor and their settlement attorney about special programs for first-time buyers.

For example, in Maryland, first-time buyers can save money at settlement because they don’t need to pay the recordation tax, Mr. Klein says.

For first-time buyers, the biggest obstacle to purchasing a home is usually accumulating a down payment. While funds are needed for closing costs and moving costs, financing programs are available that do not require a down payment at all.

“The popular loan programs right now are known as ‘80-20’ programs, with borrowers taking out a first mortgage for 80 percent of the home’s cost and a second mortgage for 20 percent of the value,” says Mr. Klein. “The reason these loans are structured this way is so that buyers avoid paying private mortgage insurance (PMI), which is normally required on homes with a down payment of less than 20 percent. PMI protects the lender, not the borrower, in case of default on the loan.”

Borrowers can also choose an “80-15-5” loan with a 5 percent down payment or an “80-10-10” with a 10 percent down payment.

While in the past borrowers often chose an adjustable rate mortgage in order to save money on the interest rates, today the adjustable rate loans and 30-year fixed rate loans have an almost insignificant difference in interest rates.

Borrowers are most often choosing the fixed-rate loans so they are protected from increasing interest rates.

First-time buyers should discuss the various available loan programs for their particular situation in depth with their lender, who should offer a variety of potential loan scenarios and identify the advantages and disadvantages of each product.

In recent years, lenders have begun offering interest-only loans, which allow borrowers to pay only the interest for a certain number of years to lower the monthly payments. The principal will not be paid down during this period of the loan, after which the monthly payments will rise significantly.

“I don’t recommend interest-only loans to first-time buyers because if the property drops in value, even if it is only by 1 percent, then the buyers could owe more money on the loan than the home is worth,” Mr. Klein says. “Interest-only loans are all right if people are disciplined and pay additional money toward the principal, but, typically, first-time buyers are stretching to make the payments, so they are not as likely to do this. It’s important that home buyers understand everything about the loan they choose.”

During the entire process, from applying for a loan to approval to settlement, it is vital for buyers to stay in touch with their lender along with their Realtor. Either the lender or the buyer should initiate communication every few days just to be certain there are no missing documents or problems with the loan.

First-time buyers should spend time deciding whether they want to spend the maximum available mortgage amount for their home or whether they prefer to spend less money on their housing costs.

Even if the lender approves the buyers for a $500,000 mortgage, for example, the buyers should consider their future expenses when deciding how much they are comfortable borrowing.

Married couples may decide that one spouse will stop working to go back to school or to raise a child, so borrowing a lesser amount would be prudent.

Lifestyle choices, such as taking vacations or spending on entertainment or a new car, should also be taken into consideration so buyers do not feel strapped by their mortgage payments.

Once buyers have determined how much they are comfortable spending, it is time to meet with their Realtor to develop a wish list for their home. At the first meeting with the real estate agent, the buyers and their agent should develop a list of priorities for their home, including a preferred neighborhood, whether they need to be near public transportation, whether they want a town home, condominium or single-family home, the number of bedrooms and baths required and preferred amenities such as outdoor space or a fireplace.

“It’s important to talk to people about their time schedule, to have them think about when they want to move and to develop a plan in an organized fashion,” Mrs. Goldman says. “I use a global approach of identifying neighborhoods where they want to live, then looking at homes in each neighborhood to narrow it down.”

Buyers often search the Internet and visit open houses early in their search for a home, but, while this can be educational, it usually makes more sense to start with the financial plan and meeting with a Realtor to set priorities before actually visiting homes. This way the buyers are clear about their goals and clear about what they can afford to spend.

Once a property has been found, buyers should work closely with their Realtor to understand the contract and to begin negotiations. While the market has shifted in recent months to allow for more negotiating, the process depends on each specific home.

“Everything is a function of how long a house has been on the market,” Mrs. Goldman says. “Sometimes there’s a great house that’s priced right and so there is very little to negotiate, but sometimes you can get a better deal. Buyers need to look to their real estate agent to determine what to ask for. The buyers agent will get all the information needed to make a proper offer.”

Most contracts include a clause with the offer contingent on a home inspection. Buyers should hire a home inspector recommended by their real estate agent or a trusted friend and should plan to attend the home inspection. Not only will the inspector be looking for flaws in the home and its system, but also will provide a valuable tour of the home and its maintenance requirements. The solution to problems uncovered during the home inspection can be negotiated with the sellers through the real estate agents.

In addition to a home inspection, buyers often choose to have a radon inspection and a termite inspection. An appraisal must be done on the property to determine whether the home’s value is equal to or above the negotiated price.

Once these steps are taken and the contract has been accepted on both sides, the buyers need to obtain homeowners’ insurance for their new home, arrange for utilities and a moving company.

The real estate agent will also recommend a settlement attorney and arrange for the closing, where the title of the home transfers to the new owners along with the keys to the home.

Just before the settlement, the buyers and the real estate agent will do a final walk-through of the home to be certain that the property is in the same condition as when the contract was written.

“The time period between the initial contract offering and the settlement is crucial, and buyers need to stay in close touch with their real estate agent,” Mrs. Goldman says. “The real estate agent should make sure that everything is in writing between the buyer and the seller so that there is no confusion at the settlement.”

Settlement attorney Paul Leighton with Settlement Solutions in Manassas says that the most important preparation for settlement day for buyers is having a good relationship with their lender.

“Buyers need to reach a comfort level to make sure they have full disclosure on everything related to their loan,” Mr. Leighton says. “They need to know before the closing what their interest rate will be, an estimate of their monthly payment and an estimate of what their escrow payments will be to cover taxes and insurance. I’ve seen buyers come in totally confused about whether they have an interest-only loan or an adjustable-rate loan, with no understanding of how long their rate is fixed.”

While some lenders require taxes and insurance to be paid by an escrow account, which means that money is collected each month with the mortgage payment and held by the lender until insurance and tax payments are due, borrowers sometimes have the option of choosing to pay those bills on their own.

Buyers also have a choice of purchasing title insurance in addition to the title insurance that covers the lender. Buyers should discuss the pros and cons of purchasing title insurance with their lender and Realtor.

In preparation for the closing, buyers should go over a good faith estimate (HUD-1) of the closing costs that is provided by the lender. The HUD-1 form includes every payment due by the buyer at closing and every payment due by the seller at closing, plus any proceeds from the sale of the home that are given to the seller at the settlement.

Buyers need to arrive at the settlement with identification and certified funds for the estimated amount needed for the down payment and closing costs. In addition, personal checks should be available to make up the difference between the estimated cost and any additional fees.

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