For this post we will assume that you already own a property and it may or may not meet your families current needs.
First let’s talk about a good option if you have started to outgrow your current house or you are ready for an upgrade for any other reason. What do you need to know to get the next house purchased? Well for a home purchase we always start at the same place, financing. How do you get the money to purchase the house. Well, it’s pretty similar to the way you bought your first house with a few exceptions. The largest one being that you will need to be able to, on paper, afford the loan on both properties.
Well dah, but what does that really mean? It means that your debt to income ration has to be such that you have enough monthly income to pay both loans. This can be a little more complicated than it first appears but the best thing to keep in mind to help your self be ready to buy is to keep your monthly revolving debt bills as low as possible
I personally HATE “bad” debt. What that means to me and most lenders is debt that that is not backed by an appreciating asset. This dept is car payments, student loans, credit card payments, etc. I have never had a car payment in my life and I probably never will. If you know me you know I do not drive an expensive car like most realtors. I just can’t stand the debt on a non-appreciating asset. I feel a bit different about student loans because education is important and it often means that you have the ability to make a larger income and that is a good thing because it adds to your ability to purchase anything including “good” debt. So what is good debt? Well for me it is debt on an asset that has the ability to appreciate in value. REAL ESTATE!
For most borrowing purposes the amount you can borrow to purchase a home is based on the loan type and your credit score. Lately your total monthly debt can not exceed 45% give-or-take. The kicker hear is that it includes the dept you intend to incur to purchase the new property. So the math on this is, if you make $4,000 dollars per month than ALL your monthly debt can not exceed $1800 per month. Well that’s not all that much if we are talking about the cost of two houses. The good news is there can be a bit of a loophole here.
For the last few years mainly the years we were in, and recovering from, the Great Recession this loophole was closed to us but now it’s back. So what is this magical loophole that can fix this potential stumbling block? It is a lease on the house you already own. If you can get your current home leased while you are in the process of buying your next house it can help offset the debt of the currently owned property. So let’s say that your current home has a $1200/month mortgage and you can rent it for exactly $1,200/month. Well that does not sound that great (and by the way it will likely rent for more than that, but like it often is, that’s an entire post all in itself and we will not cover it here and now) but with the loophole it is great! So most lenders will allow the amount of the lease to “cancel out” 75% of the debt it covers. What’s this mean? It means that the $1200 lease will cancel out $900 of debt. So instead of being able to buy a property that is $600/month you now can buy a house that is $1500 (this math is assuming you have no other monthly debt). **This information is only semi-accurate because of recent changes made to lending guidelines but is still the best and easiest way to get the point across**
So now you have your current house leased and you get to buy a new house that is a bit larger and nicer. That’s what I call a win! If you read or watched my last post you will also realize that you will get to buy your new place with an easier to get and lower interest rate owner occupant loan. Another WIN!
Now if you do not want to move out of your current house, no big deal. You just will not get to “cancel out” the debt as above and you will not get to use owner occupant financing. The big difference there is you will need a lot more money down, usually 20%-25%.
The other thing that is true of either situation is you will need reserves, usually six months. Reserves is just a lender way of saying enough money in savings to pay both mortgages for a given time period, again, usually six months. For our hypothetical situation above you would need $16200 in reserve. You will also need the amount of money for the down payment on the purchase. That will vary from $0 to many thousands depending on the loan type. Most people will be able to get a conventional loan with as little as 3% down but 5% is more likely. So on a $300,000 house that is $9000-$15000.
I love helping people get started on this path. It really is a great way to start building wealth, retirement, a college fund, you name it!
All information above is for educational purposes and will need to be verified with your realtor, hopefully me, and a good lender!