Buying a house is a huge financial decision with far-reaching implications. Today, with prices that have continued to increase and elevated interest rates, the stakes are even higher. That makes the basic guidelines -- or, as I'm calling them here, "rules" -- all the more important.
In an environment where more and more Americans find buying a home an unreachable goal, it can be tempting to ignore these sorts of guidelines and guidance. Historically, more than a few people have purchased homes without checking each of these boxes, and their financial situations didn't necessarily fall to pieces as a result.
So does that mean these rules are useless? No. In fact, I think they're actually a great set of guidelines to follow if you're trying to both buy a house and stay out of financial trouble. As you get excited about the chance to grab a part of the American dream, you may be tempted to ignore them, so here are my thoughts on five rules, why each is important, and when and how you might take some liberty with each.
Rule No. 1: Have an Emergency Fund
Having money set aside to cover life's unexpected expenses is critical when you own a house. Why? Because homeownership comes with an almost-never-ending supply of expenses, many of which are unexpected and large.
To decrease the chances of your dream house turning into a financial nightmare, it's important to have an emergency fund in place before you buy one, preferably 3-6 months' worth of your committed expenses. This is above and beyond what you may need for a down payment, closing costs and move-in expenses.
Can you bend this rule? Yes, just don't break it completely by having nothing set aside. And don't bend it for too long. As soon as you decide to buy, start stockpiling as much cash as you can. If you don't have some money set aside to which you regularly make additions, you're just asking for trouble. Home-related expenses are regularly measured in thousands of dollars, so the more cash you have on hand, the better.
Rule No. 2: Create a New Budget
Besides your mortgage payment, you'll also have real-estate taxes, homeowners insurance, utilities, maintenance expenses and possibly homeowners association fees. Also, since you'll be taking on a mortgage debt, you may need to increase or buy new life insurance. The bottom line is that things can easily get away from you if you don't build a solid budget for your new digs.
Can you bend this rule? Yes, but do so at your own peril. Working out a budget before you buy is essential to determine whether you'll be able to make ends meet with the big change. If you don't make the effort to add up the numbers and slightly underestimate what you can actually afford and overestimate anticipated expenses, you'll probably be able to scrape by. But if you're way off, you've just turned your exciting home purchase into a grind of not-so-exciting financial challenges.
Rule No. 3: Save Up a Big Down Payment
Even if you can get a loan that allows you to get by with little or no down payment, such as a Department of Veterans Affairs or Federal Housing Administration loan, having the money available is still typically a good idea. This way, if the real-estate market drops and you need to sell the house before the market recovers, you'll have equity in the home or money available to cover the shortfall and hopefully avoid getting trapped in a situation where you owe more on your mortgage than your property is worth.
Can you bend this rule? Yes, especially if you qualify for certain types of loans. Just understand that you're setting yourself up for some steep financial challenges if you have to sell your house and it's not worth enough to pay off your mortgage and all of the associated selling costs. A situation such as this can force you to rent the house instead of selling it, stop you from buying another home and force you to sell other assets to generate the extra needed cash. In other words, you could face a huge amount of stress in a very short period of time. The more you put down upfront, the less likely this is to happen.
Rule No. 4: Have Confidence in Your Job Security
For many homeowners, household expenses consume more of their take-home pay than any other category in their budget. Add in the long-term commitment of owning a home, and it becomes clear that you need to be confident in the sustainability of your earnings. If you're a two-income family, try to limit the purchase to a house you can afford on one income. That way, you'll have financial wiggle room, especially if one of you loses a job.
Can you bend this rule? No.
Rule No. 5: Commit to Home Ownership for the Long Haul
You may not believe it, but home prices can go both up and down. So if you can't plan to own a house for at least five years or longer, you might want to wait. For military families with three- or four-year assignments, buying a home rarely makes sense unless they intend to rent it when they move on to their next duty station.
Can you bend this rule? Not unless you are prepared, financially and emotionally, to step up as a reluctant landlord.
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