How To Buy A Home Part 1- Closing Costs, Downpayment and Loans

How To Buy A Home Part 1- Closing Costs, Downpayment and Loans

Broker | Owner | Mortgage Consultant
Josh Lewis
Published on October 3, 2020
How to buy a home closing costs downpayment loans

How To Buy A Home Part 1- Closing Costs, Downpayment and Loans

Dustin Steeve of Lighthouse Escrow in Irvine, CA and Josh Lewis, Broker/Owner of BuyWise Mortgage explore what first time buyers should be asking and learning about to jump start your journey to homeownership.

This is Part 1 of 7 of this Interview

– All right, hey Josh, how are you doing?

– Not too bad, how about yourself, Dustin?

– Yeah, I’m doing well. I’m really looking forward to this conversation about how I can buy a home. I being the average person out there right now, especially a lot of first time home buyers or maybe people who got washed out in 2008, 2009, have been renting, and are looking to get back in the market, so they qualify as first time home buyers again.

Just a lot of uncertainty with the pandemic, all the stuff going on in the economy, not sure what to make of it. And so Josh, I reached out to you because you know, you and I have worked together. Scott is your business partner. He and I host a podcast called the Marketing Trench.

I know you guys well, you are just, you’re very knowledgeable on what’s going on in the market. You work with people all across the country. And so you guys just you know what’s going on, and so I wanted to kind of nerd out with you a little bit here and hopefully provide some value to people. P

eople in my life, hopefully, some people in your life. We’re broadcasting this on your Facebook, my Facebook on your guys’s YouTube page. And so, you know, hopefully, this is the kind of thing that people will be able to, you know, watch, and get some knowledge on how to set up their expectations with regards to home buying.

And one of the things I wanted to clarify, you know, in the posts that I put up advertising this thing, you know, I talked about wanting to address subjects like student loans, low down payment, high home prices, high competition credit challenges, all that kind of stuff.

We’re gonna dive into that, but I wanna set the table here really quickly and just, you know, level set the expectations in specific and say, there are definitely situations in which it’s just not possible to buy, right? You’d agree with me on that?

– Yeah.

– Yeah, so I don’t wanna have anyone walk into this and think, “Okay, they’re gonna tell me how I can buy, regardless of, you know, the impossible.” That’s not what this is, but at the same time, you and I have both had enough conversations with people in our lives, where their expectations of what it takes to get in are too high, and then also their expectations of what the benefit of getting in, if they can’t get in are too low.

So I wanna dive into that because I think that there’s actually a lot of people who are stuck in that kind of middle terrain. And if we can clarify some stuff, hopefully it will create some opportunity. So that’s the goal and Josh, you’re super busy. So thank you so much for giving us some of your time today.

– No, I’m just hoping we live up to the high standard of nerdiness to be able to have enough data and facts and numbers to live up to the standard.

– Well, let’s start off with a softball. So first of all, I hear this a lot. People tell me, “Hey, you know, Dustin, I’d love to buy California super expensive. I don’t have 20% for a down payment.” How much Josh do you need as a down payment first?

– So, 3 to 5% is the easy answer. FHA is 3 1/2% on conventional loans. So loans are sold to either Fannie Mae or Freddie Mac. We can do 3% up to a loan amount of 510,400. If you’re in an area like Orange County, LA County, a lot of California, that goes above the 510, 400 goes to high balance loans.

Once you go over that threshold and high balance loans, it’s a minimum of 5%. So that high balance limit Orange County is 760,000 and change. You can get into that property with 5% down. You are gonna need your closing costs and pre-paids which we’re gonna get into in a minute.

But in terms of just the down payment, only 5%. And you know, there’s some people online with big platforms and they have their numbers. I saw an article last week, the guy had a 30303 rule. So you have to have 30% before you’re allowed to buy a house. No more than 30% of your income towards your housing payment and your house couldn’t be more than three times your annual income.

Those are great rules, but they’re incredibly conservative. A lot of you watch Dave Ramsey. Dave Ramsey’s whole thing is you have to put 20% down. You can only do a 15% mortgage.

You have to have… There’s all sorts of rules and those are great goals and objectives, but let’s almost step back. Here’s some numbers that I love to talk about. Homeowners on average have 40, more than 40 times greater net worth than renters. Now correlation doesn’t equal causation.

So it’s not strictly saying that a homeowner buying a home makes you 40 times wealthier than a renter. But about 60% of that net worth is in home equity. So it’s a large factor there.

So we can’t separate the fact that homeowners tend to be older, which equates to more wealth, tend to be more educated which equates to more wealth, tend to on average, earn more, which obviously leads to more wealth.

But we can see that over time owning a home for the majority of people will lead to a greater amount of wealth. And why is that? There’s a couple of things there. There’s no such thing as a 30 year fixed rent.

So we’ve seen people talking about how home prices have gone up and been so ridiculous over the last five, 10 years. Rents are even more so. And if you had bought five years ago, you have a fixed, a 30 year fixed most likely.

You’ve probably been able to refinance in the current market and actually lower your payment, while the rent has been spiking. So buying allows you to fix your housing payment. For the most part, you have variable costs in there like insurance and taxes, but you can at least fix the largest portion of it.

You’re putting money into a forced savings account every month. We don’t have interest only loans for the most part anymore. So there’s a principal portion of your payment. So every month money’s going to principal. Then we have appreciation. And this is where it’s important for people to understand.

If you’re following Dave Ramsey, and you’re waiting to have 20% saved up, let’s say you’re in a lower cost area of the country and you can get a home for $350,000. You need $70,000 saved to get to 20% down. Let’s say you can save $7,000 a year. That takes 10 years.

If home prices go up 5% a year, so even 3% a year, they’re going to have gone up a whole another third. You’re $400,000 house’s now $520,000 house. Your rent went up the whole time and you weren’t putting money into your principal account.

So we used to also talk heavily about the home ownership, the tax advantages of home ownership. After the 2018 changes for high home price buyers, there are still some tax advantages for the most part. We just wanna talk about, being a homeowner allows you to fix your housing payment, allows you to save money in terms of a principal reduction every month.

And you get that leveraged appreciation that the renter is never going to get. Those three things over time, over 10, 20, 30 years. It’s not surprising. It’s pretty easy to understand why homeowners have so much greater wealth than renters, and why it’s important to buy a home as soon as it’s reasonable for your life.

Like you would ask, “Well, who should buy a home?” Not everyone should buy a home, but everyone should have it as their goal to buy a home and to get to a point in their life, where their credit, their savings, their income, and just their stability in life allows them to do that.

So it was a little bit more than what you were asking, but it helps me when I’m talking to a frame, how they should be looking at this. Buy a home as soon as it’s right for your life.

– Yeah.

– And those are the reasons why.

– Yeah. And I mean, to your point, you know, we refinanced recently as you know, and we did, we dropped our… We refinanced a couple of times already, and our payment when we bought our house back in 2017 was something like, I wanna say $3,500 a month.

And that included, you know, that’s everything, right? Principal, interest, the impounds, all of that. Right? Now it’s down to, I wanna say 25,

– Yeah.

– 26, something like that. Right? Yeah. And so there’s no such thing as a 30 year fixed rent. You’re totally right.

And because of the pandemic, because of the interest rate drops, we know, we’re now down to, you know, we’re almost saving a grand a month. Meanwhile, you know, I have friends that are trying to, you know, rent up one, two, bedroom apartment, and I mean, Josh, the prices of those have gone up a grand since my wife and I rented, you know, I don’t know, six, seven years ago. So it’s just, yeah.

The relationship there is inverse. Okay. So people want in, so we got that part. 3 to 5%. I wanna point out, you know, a high balance loan, 750,000, that gets you into a single family detached home in South County, Orange County, and a lot of other places, it gets you into a lot more than that, of course, like you pointed out Josh. That high balance loan number, it changes. Right? Or is it static?

– No, it changes every year. So the FHA looks at home prices nationwide, and they calculate an annual appreciation and they increase the conforming loan limit to that. And then the high balance limit is just 150% of the standard balance. So last year we went from 478 and change, to 510,400 on the standard balance, and that pushed us up to 765,600 on the high balance.

Now, not all areas get the full high balance. Like I believe San Diego now has indexed up where they get the full high balance of 7,656, but for a while, they were kind of at in between number. It wasn’t quite as high as the max, but it was much higher than the 510,400. So depending on where you are in the country, it could be less than 7656.

– So you might need to kind of reset your expectations a little bit, if you’re a first time home buyer, you know, in your head, you’re dreaming of a single family detached home, but maybe your pocket book gets you to 3% down payment, a lot sooner than they get you the 5%, more importantly, it gets you a new home.

So you can enjoy all of those tax advantages and all of the advantages, not just tax, but all the advantages Josh talked about a minute ago. And, you know, you can easily get a condo, easily being relative term, but you can get a condo in Orange County for less than 750,000. And there are some really fantastic condos. Frankly, that’s what my wife and I did.

We got one with a yard and everything, we’re very happy with it. And so, you know, it’s about starting. It’s about starting and getting in. And 3% can do that for you. Now let’s talk about one of the questions that someone had asked us here, how much money do you really need to save once you start taking into account, not only the down payment but also the closing costs and the fund up?

– So absolutely,

– Real quick to.

– what was that?

– Can you describe what the closing costs are and what the pre-paids are?

– Absolutely. So we have the three elements there. The down payment is easy. You know what percentage you’re putting down, three, 3 1/2, five, 20%. And it doesn’t have to be a percentage if you have a fixed dollar amount, whatever you decide, as long as it meets the program guidelines, it’s fine.

Now the closing cost, is where it starts getting a little bit different. For the most part, your closing costs you’re gonna pay for work, as long as you’re getting a loan, you’re gonna have a credit report. You’re gonna need an appraisal for the lender. You’re gonna have escrow services like lighthouse provides.

You’re gonna have title insurance. Now for most people, the seller is gonna pay for the owner’s policy. But if you’re getting a loan, you’re gonna pay for a lender’s policy. You’re gonna have notary fees, you’re gonna have recording fees. So I just ran through a few of our transactions.

We’ve got a couple on the low end, 300, $350,000, and those were about $3,500 in closing costs. Total, we have another one on the high end, middle of the road, actually, you know, $750,000 purchase, and that was just under 5,000 in closing costs. So it was more like 2/3 of a percent.

So the one that throws everyone off, that hardly anyone when I talked to accounts for, they always go, “How much do I need for down payment and closing costs?” Then you go, “Well, wait, why is the number even bigger than that?” The pre-paids are the amount.

If you’re putting less than 10% down, the lender is gonna require you to impound, to create an escrow account for taxes and insurance to make sure they’re paid every month.

So with that, you’re going to at closing on a purchase. You’re gonna pay your first year as home-ownership at premium. And you’re gonna put about two months into that impound account. So in 12 months, when it comes due, again, that there will be enough in there to pay it.

Now the property taxes vary because every state is different in how they handle them. California in their infinite wisdom, they’re paid twice a year, but they’re not paid every six months. So it makes for an unequal amount that we need to collect at closing.

So we’re in a weird time of the year right now, where if you’re gonna close next month, you get into escrow right now and you close next month, we’re gonna collect four months, but then you’re also most likely going to have to pay a portion of the sellers, for… Because they will have paid through the end of the year by closing.

So in real terms, six to seven months of property taxes, 14 months of homeowners insurance, and 15 to 30 days of prepaid interest. So those are just costs of home ownership. And part of the reason is let’s use that example again, today’s September 16th, if you get into 30 day escrow today, we close on October 16th.

You’re not going to make a payment on November, 1. So when we look at that, you’re just collecting funds to make sure there’s enough to pay the interest to the lender for the partial payment, they’re not going to receive, and then to set up that your taxes and insurance can be paid, when they come due.

– So if we heard that and I were to go on Google and I were look at property taxes in the area I’m looking to buy. That would tell me the annual amount I would have to spend. Yes, and I could divide that by 12 and sort of figure out roughly, you know, how much at a minimum, if I was funding up say six months or whatever.

Just to use a safe number, how much I would need. Would that be the way you would do, find out the number, or is there a better way to find out that number besides contacting a real estate agent?

– Well, real estate agents often don’t know the numbers. They’re not numbers people. They know neighborhoods, they’re people, people, they’re contract people, they’re negotiators and they know neighborhoods really well and home prices. They’re not great with the numbers. Some are, I don’t want to generalize.

Some are, but your best bet is talking to a lender. And it’s cliche, almost every realtor, a buyer walks in and says, “Hey, I wanna buy a house.” They say, “Cool, you talk to a lender.” “Okay, now then you need to talk to my lender.” And buyers immediately throw their guards up. “Whoa, what kind of scam is this? I just wanna see houses, and they’re sending me over to get a loan from their buddy.”

The reality is you need those answers. There’s no sense in going out and looking at homes, until you know whether you can qualify for 300,000 or $800,000. And most importantly, I actually have people that come in that will qualify for $800,000, but they have enough money to buy the $300,000 house.

So we wanna know both of those. We wanna tell you what the entire payment is going to be, and exactly how much money you have to bring in at closing. So you’re absolutely right. Some of the online tools are getting a little bit better in helping you estimate.

If you figure six months of property taxes in California, it’s gonna get your really close. 12 to 14 months of homeowners insurance, it’s gonna get you really close. But your best bet is talking to a mortgage professional that can actually walk you through those numbers.

And if you walk away from your initial consultation saying, “Hey, I don’t think they understood what I wanted. Or most importantly, they weren’t there to answer my questions.” It’s a red flag to talk to another person. There’s very low barriers to entry in the mortgage business.

At least 80% of mortgage people are not worth talking to. So the good news is if 20% are, that’s still a lot of people that can help you and guide you in the right direction. I know not just in California, but throughout the country, a ton of good lenders. Unfortunately, you know, Scott, my business partner started Find My Way Home, educational website for borrowers in 2007.

And over the 13 years, the horror stories that we see of people getting painted into a corner, getting way far into a process, having sold a home and expecting to close on another one that they don’t qualify for. Just the worst horror stories you’ve ever seen. So if someone wonders why their realtor wants them to talk to their lender or a lender?

That’s why. And why they want it to be their lender? Most realtors that I know will tell their clients, “Hey, you don’t have to get a loan from my guy, you have to talk to him, so that we know we’re all on the same page. And then you qualify. And then by all means, shop the world and find out who you can get your loan from.”

So long way of saying, I would talk to a mortgage professional and I would want to make sure that walking away from that conversation, I feel like I’m armed and educated with the numbers that I needed, and most importantly, that person took the time to answer my questions.

As a homeowner, especially at first time homeowner, home buyer, you’re gonna have a lot of questions. And someone needs to be able to answer those things and close loops for you, and make them make sense.

Broker | Owner | Mortgage Consultant
Josh Lewis Broker | Owner | Mortgage Consultant
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(714) 916-5727

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