- The Washington Times - Friday, August 28, 2009

The deadline for the first-time homebuyer federal tax credit is looming - all settlements must take place prior to Dec. 1. Multiple steps are required to buy a home, starting with becoming “financially ready” by saving money for a down payment and paying bills on time, and ending at the settlement table with the passing of the keys.

While each step has its own importance and brings potential buyers closer to becoming homeowners, the most crucial element in today’s real estate market is to arrange financing.

“So much has been written about tight credit and strict loan requirements that a lot of people are afraid to even try to get a loan,” says Craig Kay, a Realtor with Weichert, Realtors in Potomac. “But everyone interested in buying a home should start by going to a lender and getting prequalified for a loan. People should not be afraid to ask questions and get help in arranging financing. There are plenty of options out there.”

Step 1: Prequalify for a loan

One of the most popular financing options for people is to apply for a loan insured by the Federal Housing Administration (FHA).

“Most of our customers now are interested in FHA-insured mortgages because they allow for a down payment of just 3.5 percent,” says Glenn Benson, a managing partner with Midtown Mortgage Co. in Bethesda. “The down payment can be a gift from a relative, and borrowers can even have a nonoccupant co-signer for the loan, such as a parent.”

Jon Okun, also a managing partner with Midtown Mortgage Co., says FHA loans are attractive to buyers who make a good income but have been working a short time and have not built up substantial savings.

“FHA loans are easier to qualify for than conventional loans, requiring a credit score of just 620 and more lenient debt-to-income ratios,” Mr. Okun says. “FHA loans don’t adjust the interest rate if you have challenged credit, either. Conventional loans typically require a credit score of 740 or above. If your credit score is lower, then you may be charged a higher interest rate.”

Mr. Benson says the FHA considers the total financial profile of borrowers. That means if borrowers have a lower credit score, they may be able to qualify if they have substantial assets or a high income in relation to their debts. FHA loans require an upfront mortgage insurance premium (MIP) of 1.75 percent of the loan amount, which is typically added to the loan balance. In addition, FHA borrowers must pay a monthly mortgage insurance premium of 0.55 percent of the loan amount.

“Conventional loans normally require 20 percent as a down payment, and then there will be no mortgage insurance requirement,” says Mr. Benson. “If you are making a down payment of 20 percent, the entire payment can be a gift, but if you make a 10 percent down payment, then at least 5 percent of the funds must be from your own accounts.”

Private mortgage insurance (PMI) is required for homes financed conventionally with less than 20 percent as a down payment.

Buyers should be prepared to pay closing costs in addition to making a down payment, although Mr. Okun says that sellers are now frequently offering to pay the closing costs in order to attract buyers.

“The lower the sales price, the less inclined sellers are to give additional closing cost assistance,” Mr. Okun says.

Step 2: Search with a pro

With so many homes on the market, buyers should seek the professional help of a Realtor to narrow their home search and ensure they are getting a good value.

“After buyers get prequalified for a loan, they need to work with a Realtor who knows the market and can help figure out the real value of a home,” says Karrina Brown, a Realtor and an associate broker with RE/MAX Allegiance in Arlington. “There’s a lot of what I call ‘auction pricing’ going on in the market now, which means that the list price isn’t an indication of what a home will actually sell for.”

Ms. Brown says this is particularly an issue with foreclosures, which dominate the market in many locations. She has seen homes listed at $80,000 and then have competing offers of $120,000 for an all-cash purchase and $140,000 for an offer that includes preapproved financing.

“Banks want to move their inventory of homes quickly, so they are deliberately pricing them low to encourage competition among buyers,” says Ms. Brown. “A good Realtor can review what homes are actually selling for to make sure the buyer wins the competition.”

Ms. Brown says even computer-savvy buyers won’t have price information that is as current as what Realtors have because much of the information online is based on tax records, which could be months behind.

Furthermore, buyers should be careful to work with someone who studies the local market every day.

“It’s not the case anymore that you will always get appreciation in a property, so buyers need to be educated about the market,” says Mr. Kay. “Buyers who need to sell a home before buying the next property should recognize that it’s not what you sell for, it’s what you buy for that matters now. As long as you have good enough credit to take advantage of low interest rates, you can get a good deal on a home now.”

Step 3: Make an offer

In situations with multiple bids, Ms. Brown says conventional financing will often be more attractive to the seller (than FHA financing) because the borrower is making a larger down payment and the property is more likely to meet the less stringent appraisal requirements of conventional financing.

“An experienced agent can look at comparable homes that sold recently to evaluate whether there will be multiple offers for the home,” Mr. Kay says. “If a home is aggressively priced, buyers need to be ready to offer an escalation clause that automatically increases the offer to a certain limit. Buyers can also increase the chances of their offer being accepted if they can demonstrate their financial strength and the likelihood of getting through to settlement.”

Buyers can negotiate on the terms of the sale, such as settlement dates or other issues of importance to the sellers. Increasing the amount of the earnest money deposit, which is the money offered along with the initial contract and applied to the down payment when the transaction reaches settlement, can also improve the chances of an offer being accepted.

Buyers of short sales (properties offered for sale by owners who negotiate with the lender to accept less than the full loan amount to pay off their mortgage) and foreclosures may need to adopt a different strategy than buyers of traditional listings. Short sales typically take longer to reach closing, primarily because the buyer needs an offer accepted by the seller and by the seller’s lender.

“Buyers of short sales need to be very cautious if the property is significantly underpriced because chances are high that the bank will not accept that price,” says Ms. Brown. “Banks will sometimes even delay ratifying [accepting] the contract on a foreclosure and can put addendums on the contract that could be difficult for the buyer to accept. I recommend having an experienced Realtor, or better yet, an attorney, go over the addendums to a contract.”

Step 4: Get a home inspection

Realtors always recommend that buyers have a home inspection to make sure there are no major defects and to know more about the condition of the property they are buying.

A home inspector can help buyers estimate the cost of repairs and anticipate the life span of appliances and home systems so the buyers are better prepared for future home maintenance issues. If a major leak or roof defect is found during an inspection of a foreclosure or short sale, the buyers can ask for the bank to pay for the repair or they can ask to be released from the contract.

Foreclosures and short sales normally are sold “as is,” which means the buyers cannot ask for repairs or improvements to be made by the sellers or the bank.

The home inspection can also give buyers an idea of whether the home will meet appraisal requirements.

Step 5: The appraisal

The current market has made it difficult to predict how much homes are worth these days.

“Buyers should definitely have an appraisal contingency in their contract that allows them to renegotiate the price or get their deposit back if the appraisal comes in lower than the amount of the mortgage,” says Mr. Okun. “If they don’t have this contingency, buyers will have to come up with the additional cash to fill the gap between the appraised value of the home and the sales price because the lender will not approve a loan for more than the appraisal.”

FHA rules require a stricter appraisal process than conventional financing, primarily because buyers using FHA loans are making a lower down payment and the federal government wants to be certain the homes are livable and have value equal to the purchase price. Many foreclosures are in particularly bad condition, including some that lack appliances or even kitchen cabinets. FHA rules specify minimum living conditions, which must be met for the home to qualify for an FHA loan.

“Some listing agents say that they won’t accept offers with FHA loans because of the concern that the property won’t meet the appraisal qualifications,” says Ms. Brown. “When I am looking at homes with buyers, they are looking to see if the home meets their emotional and physical needs, but I am looking to see if it will pass the appraisal or not.”

Buyers interested in purchasing a “fixer-upper” may be able to qualify for an FHA 203k loan, which wraps financing for renovations into the loan.

“Low appraisals are usually not a problem with bank-owned properties because these homes are usually initially listed at a low price,” says Ms. Brown.

Step 6: Hire an attorney

Ms. Brown recommends a “split settlement,” with an attorney representing both the buyer and the seller for foreclosures and short sales (and even for traditional sales).

“It’s very important to make sure the title and the deed are clear,” says Ms. Brown. “For example, I recently saw a sale where the parking space, which was supposed to convey with the condominium and was included in the price, was not listed on the deed. An attorney can help resolve issues like that.”

Ms. Brown said that even with traditional sales, there can be problems.

“Many of the homes on the market now were purchased or refinanced during the boom times, when paperwork was often rushed through,” says Ms. Brown. “In some cases, the earlier loans were not always paid in full or the paperwork to prove they were paid is missing. Buyers need to always purchase owner’s title insurance in addition to the title insurance that protects the lender, so that the buyers won’t be responsible for any liens against previous owners.”

Buyers should also be patient during the whole process, which isn’t as “easy” as it used to be for anyone involved.

“Buyers need to realize that even traditional sellers who have put their homes on the market wouldn’t be selling right now if they didn’t have to, so basically almost all sales are somewhat distressed,” says Mr. Kay.

Professionals such as lenders, attorneys and Realtors can assist buyers over the many hurdles along the way from thinking about buying a home to reaching the settlement table, but the emotional satisfaction of homeownership can be experienced only by the buyers.

“Buy a home because you like it and want to live in it, not just as a business decision,” says Mr. Okun.

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