Buying a home is one of life's biggest financial decisions. There are a few traditional pearls of wisdom that should help you decide whether or not you can afford the financial leap.
Rule #1: Put at least 20% of the purchase price of the home toward a down payment. It sounds conservative, but it's an excellent rule of thumb.
Rule #2: Your mortgage payment should be no more than 25% of your take-home pay. Let's face it. Even without a mortgage, daily life is expensive. You need a large chunk of that take home pay for your other expenses.
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Rule #3: Strictly limit other debt. If you're going to be paying a mortgage, this is just a no brainer.
Rule #4: Don't pillage your savings to make the purchase. Yes, you need to make a good-sized down payment, but you still need something in the accounts for a rainy day (or expensive and unexpected home repairs!).
Knowing the ground rules for a wise and affordable mortgage is one thing. Actually meeting these four criteria is another. So where should you turn if you feel you're ready to purchase a home, but don't have your financial ducks in a perfect row?
A family loan or a loan agreement with a friend could help you to home ownership. Perhaps you're one of those lucky few who can get a personal loan from a well-off friend or family member for the total home cost. But, let's be realistic. For the vast majority of people, a private mortgage like this is out of reach. Nevertheless, many people find friend or family lending does play a key role in conquering the final hurdles to home ownership. Consider these scenarios:
Person A: She has a secure job. She carries little to no credit card debt. Based on her take-home pay, she can afford a $220,000 mortgage. But if she puts 20% down, she'll completely wipe out her savings. Her parents have agreed to loan her 10% of the down payment so she can keep a savings safety net.
Person B: He spent five years putting every extra penny toward paying off hefty student loans. Now he's debt free and saving every month, but he's still a few years away from having a decent down payment. A family friend, looking at his record of debt repayment and current savings, feels he's a safe investment and has agreed to lend him enough for a down payment.
Person C: In the last few years, rental rates in her city have skyrocketed, even surpassing many people's monthly mortgage payments. Every month she's bleeding money to rent, money that would be better spent investing in her own home. But the mortgage she's qualified for is not large enough to purchase a decent home in her area. Her grandparents have agreed: if she can find an affordable property with good resale potential, they'll loan her the difference to make the purchase.
When looking to purchase a home, scenarios like these are common, and a loan from a family member or friend can fill the gap. But these types of loan agreements can also complicate personal relationships. If you choose this type of personal loan, but sure to do it right by protecting your relationship with a formal, legally recognized loan agreement.
Loan agreements have a number of key elements that ensure their stability and success. If you're going beyond the traditional bank mortgage to finance your home purchase, understanding the basics of loan agreements is essential.
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