Before you step foot in an open house, you need to know how much condo you can afford. For example, if you make $50,000/year, you cannot afford a $300,000 condo, unless you have a secret trust fund. And even if you make $100k/year, a million dollar condo is way out of your league. And, if you start looking at places out of your price range, you’ll only be disappointed when you start looking at places you can actually afford. So, be realistic and follow these steps:
1. Go to annualcreditreport.com and pull your free credit report. Review it thoroughly for accuracy and get your credit (FICO) score. You may have to pay a small fee for the FICO score, but you’ll need to know what the bank sees.
2. Figure out how much you make in a year. Add up your annual salary, bonuses, commissions and any other regular sources of income. Your mortgage lender will verify these against your pay stubs, w-2’s, 1099’s and tax returns, so don’t think you can exaggerate your way to a bigger loan. (If you remember hearing about “liar’s loans,” those were issued during the real estate bubble – and they required no documentation. Predictably, they turned bad during the market crash and banks learned their lesson.)
3. Pull together all your credit card, student loan and auto loan records and any other loans that show up on your credit report. Add up all the monthly minimum payments to determine your monthly debt.
4. Calculate how much of a down payment you can afford. Add up your savings and deduct $10,000 for closing costs and a small reserve fund. (You may need more or less than $10,000 for closing costs. You’ll get a better sense of the actual amount when you meet with a banker to get pre-qualified for a mortgage.)
5. Go to the Zillow.com mortgage calculator and input your monthly gross salary (item 2 above, divided by 12), monthly minimum loan payments (item 3) and the down payment (item 4).
The default calculation uses 30-year fixed mortgage rates, includes PMI (Private Mortgage Insurance), estimated real estate taxes and homeowner’s insurance, but does not include condo association fees. Click on “advanced” and input an estimated $500 in association fees to start. The calculator will tell you how much you can afford, if you use a 30-year fixed mortgage.
Note: Keep in mind that the calculator assumes a good credit score, so if yours is below 700 (item 1), you’ll most likely only qualify for mortgages somewhat lower than what the calculator shows – and therefore a somewhat less expensive condo.
Now, test what happens if you go with an adjustable rate mortgage. You’ll see that you can afford a little more expensive place, but at a risk. The Zillow calculator shows an option for a 5/1 ARM (adjustable rate mortgage), meaning a mortgage that has a fixed rate for 5 years and after that will be adjusted annually, within some limits. Remember that since current interest rates are historically low, most likely your interest rate will go up after five years.
Use other online home affordability calculators to double check Zillow’s number. For example, CNNMoney has a simple calculator.
You now have a starting point for your condo search. Stop by some open houses within your price range to see if there’s anything you like. If so, go to your bank and get pre-qualified for a mortgage. On the other hand, if there’s nothing you like at this price range, you’re not yet ready to buy. Instead, focus on boosting your income and savings rate – and check again in 6-12 months.
Note: If you’re a military veteran, start by checking out VA Loans. As long as your income meets the VA Loan guidelines and you’re a first-time buyer, you can get a loan with a $0 down payment and don’t even have to pay Private Mortgage Insurance.