Home is where you hang your hat. It’s where the heart is. Hopefully, it’s sweet. It’s also the biggest purchase most people will ever make, which means if you’re thinking of buying a house someday, you’re going to want to go into the process as financially prepared as possible. 

First, of course, there’s the question of whether it‌ makes the most financial sense for you to rent or buy right now. But if the answer is “buy,” you’re going to want to start thinking about things like saving up a down payment, lowering what’s called your debt-to-income ratio, and boosting your credit score. They’re key to helping you get the house you want, but they can take some time to prepare. 

Here’s how to start financially preparing to buy a house: a step-by-step approach for making the smartest money moves to feel more on top of — and in control of — the homebuying process.

1. Know your timeline and start saving (or investing)

When you want to buy your home determines the exact way you’ll stash up enough for a down payment. If your goal is to buy within the next two years, then you’d put your down payment money where you’d put money for any other short-term financial goal: in a FDIC-insured or NCUA-insured high-yield savings account, most likely. There are also many ways to invest for the short-term that are pretty darn safe. But remember: All investments come with risk. What matters most with short-term savings is that you’re choosing the option that meets your needs in the smartest, safest (and hopefully most interest-bearing) way.

If your goal is to buy a home in more than two years, then ... 

2. Calculate how much you need for a down payment

Traditional financial advice says that you should aim to build up a 20% down payment. That means if you wanted to buy a home for $400,000, for example, you’d need $80,000 in cash. It’s the gold standard for a lot of good reasons, and we strongly recommend it if you can swing it. Still, saving up 20% can feel impossible in, well, almost all markets these days. And we’ll be honest: It’s not the standard practice it once was. In fact, the average down payment for first-time homebuyers right now is 8% — and it can be as low as 3%.

Regardless of how much you put down toward a home, the goal is to have as big a down payment as possible. You’re going to want to set aside as much as you can ahead of time.

3. Budget for other often-overlooked costs

When you’re making a “buying a house” checklist, one of the smartest money moves you can add to it is to budget for additional anticipated costs. Namely: 

• Closing and moving costs: You’ll need an additional 2–5% of the house price for a one-time payment.

• Home maintenance fund: Aim for 1–2% of the house price annually, with a month or so saved before closing.

4. Build a home emergency fund

There’s one more essential homebuying cost to plan for: an emergency fund. We’re going to assume you have one for yourself that has a solid balance or is fully funded. But if not, we strongly suggest you prioritize that over any other homebuying goal. Once you have enough to cover your own personal emergencies (think: an unexpected layoff, a sudden car issue, a surprise medical bill), add onto it — or open a new account — for house-related emergencies.

No, this isn’t the same as your home maintenance fund. There’s a difference between “upgrade kitchen sink” and “repair a kitchen sink leak,” and your emergency fund will help cover the latter. As that example suggests, the likelihood of unexpected costs increases with home ownership. 

5. Pay down as much debt as you can

Carrying some debt can be a part of building your credit, because building up a record of on-time payments is part of maintaining a good credit score. But your mortgage is likely to be the biggest debt you ever carry, and lenders are going to be looking very closely at how much you owe in debt and how you’ve paid it back in the past. 

In particular, mortgage lenders will look at your debt-to-income ratio to determine if you’ll have enough money to comfortably pay them back each month without getting underwater. They’ll want all of your debt — credit cards, student loans, car loans, everything — to total in at about 38–45% of your income. Ask a CFP® pro, and we’ll tell you to aim for between 28–36% of your income. Though, with interest rates so high right now, it’s likely more difficult to fall into those ideal ranges. 

That’s OK though, because lenders may be willing to work with you with a higher debt-to-income ratio. It just likely comes with more strings attached. (If you’re in that situation, it may not be the right move for you to take on even more debt and lock yourself into that much in fixed monthly payments.)

Lowering your debt-to-income ratio may take time. So it’s worth making a plan to pay down debt. It’s never a bad idea to pay down your highest-interest debt first (looking at you, credit cards). Additionally, you may have to adjust your budget for essentials only or practice more intentional spending to get on track to hit your goal. 

6. Check your credit score like mortgage lenders do

• Build a good credit score. A good credit score is an essential tool when it comes to homebuying. It'll help you get the best interest rates and qualify for certain mortgage opportunities. Like everything else when it comes to homebuying finances, it takes time: Unless you have amazing credit already, you’ll need to start working on your score six months to a year before you start buying a home. 

• If your credit score is over 760, you’re in good shape already. 

• If you’re between 700 and 759, you may not qualify for the best rates.

• If your score is under 620, you’ll face challenges getting approved (though you’ll still have options). 

• Actively track your credit score. Mortgage lenders are looking at different credit reports than you see on free sites. So I recommend using myFICO in the months leading up to your home purchase. You’ll pay a monthly fee, but you’re getting monthly updates on the same scores the lenders see — that is, your scores across the three major reporting companies: Equifax, Transunion, and Experian. Their scores can vary by up to 50 points, which could mean the difference between qualifying and not qualifying for a mortgage, or between a great interest rate vs a not-so-hot one.

• Dispute any mistakes. One in five people experience a mistake on their credit report: charges you never made, debts that belong to an ex or family member, payments you made that are listed as missed — things like that. If you have something to dispute … well, let’s just say they don’t make it easy. You’ll have to report the error to each credit bureau separately. (The Federal Trade Commission has a sample dispute letter you can use.) 

Disputes show up in the comments on your report, even if they’re listed as “closed.” This can be a problem, because some of the most common federal mortgage programs, like Fannie Mae and Freddie Mac, can’t insure your mortgage if disputes are showing. (FICO leaves disputed debts out of the score, and lenders want the most up-to-date score possible.) So you’ll have to check back to make sure they get fully resolved; if they don’t, you’ll need to request that as well. The bureaus are required to resolve disputes within a 30-day period. 

If they can prove the credit issue is real and not disputable, it will stay on your report, but you’ll need to contact the bureaus to get the dispute removed from the comments so you can apply for federally backed mortgage programs. Removal requests go much more quickly (usually within 72 hours). 

• Check on your payment history. How promptly you’ve paid off your debt is also a big deal for mortgage lenders and programs. More than one or two late payments in the last five to seven years will usually shut you out of the best loan terms, and even one missed payment may keep you from being eligible altogether. 

If there’s a legit reason your payment was late, you can write a letter of explanation to the bureaus. And if you’ve come to an agreement with your landlord or your credit card provider about reducing or missing payments during the pandemic, they shouldn’t show up as late — but keep an eye out and write to explain those if they show up.

7. Other than that … leave your credit report alone

Don’t apply for any loans or new credit cards in the six to 12 months before buying a home. Don’t ask for your limits to be raised. Don’t even get a new phone or utilities if you can help it. Each of these actions triggers a “hard inquiry,” which lasts 1–2 years on your report and can dip your score. And lenders want to make sure you’re not applying for credit randomly. (When you’re looking around for mortgage rates and lenders check your credit, the bureaus will see that you’re “rate shopping” and lump all those “soft” inquiries together as one — as long as they happen within a two-week period.)

If you really need to seek ‌credit during the mortgage application process, you may just have to come to terms with your lower credit score. If you need to seek credit while your house is under contract, then you’ll need to write a letter of explanation for it. It’s more paperwork for you, but those letters do work most of the time (unless there’s not a good reason and you’re just applying for credit willy-nilly). 

Want a clearer picture of how to get ready to buy a house someday? Book a complimentary 15-minute call with one of our all-women financial planners to understand which Ellevest offering or service may be a good fit for you.

Disclosures