Steps to take before you Apply for your first Mortgage

Owning your first home is the American dream.  A place to call your own and the time to stop forking out ‘dead’ rent money to landlords.  It is a good dream and a worthy aspiration, however it also usually entails the biggest financial commitment that most people are likely to make, so the thrill of buying your first mortgage needs to be tempered by the reality of applying for your first mortgage. 

Buying your first home can be fun.  Applying for your first mortgage, less so.  Here are some tips to help make the process easier:

1.  Be realistic about what you can afford

Everyone wants a nice home, preferably a large one in a good location, with all the bells and whistles.  Not everyone can afford to do this and you need to be realistic with your expectations.  Do your homework before you even go out looking.  This involves understanding all the up-front costs involved in buying or building a home, putting together a budget and being realistic about what you can afford to repay and to take into account the ancillary costs, things like buildings insurance, property taxes and any other related costs that may apply in the area where you are looking to buy or build. 

Most banks and other lenders use a general rule that they don’t like to see a prospective borrower’s financial commitments exceed more than 30 percent of their gross income.  But this is a guideline only and different banks have different requirements.  At the end of the day, you are going to be the one making the repayments, so you need to feel comfortable in your capacity to meet this obligation regardless of what the bank’s internal guidelines say.  It is a good idea to build in a bit of breathing space and 20 percent is a good figure to aim at.  This is a buffer in case the unexpected happens.  As an example, if you work out that you can afford to repay $500 per week, you want to look around for a mortgage with a maximum repayment of $400 per week.  The extra $100 is put aside as either an additional repayment, so you are paying off more than you are required to, or placed in a separate investment account (depends on whether your mortgage permits additional payments and has a re-draw facility).

Check the repayment figure that you have arrived at against reality.  If you have been paying $350 per week and haven’t saved a cent beyond this, chances are that the $500 per week is going to be a struggle.  Once you are comfortable with the weekly (or fortnightly or monthly repayment figure), find a mortgage calculator that allows you to work out a loan amount from this repayment figure.  After you have done all your sums with the up-front costs, you will have a good idea about the type of home you can afford.  Now you cna start scouring those For Sale listings. 

2.  Shop around for a mortgage

Thirty years ago, all mortgages were much the same – standard and few features, similar set-up costs and interest rates.  Mortgages were about as flexible as a lump of wood.  Financial innovation through the 1980s and increased competition in the mortgage market, has resulted in a bewildering array of mortgage products and packages.  Walking through this minefield can be a daunting task and it is very much a case of caveat emptor (buyer beware).  Given that the average first mortgage nowadays is over an upwards of 25 year mortgage term, acting in haste is likely to lead to much repenting at leisure.

Mortgage brokers can be an effective medium if you don’t want to do the foot slogging around to every bank or financial institution around, however you need to be aware that they may not be as impartial as they appear.  Very few are paid the same rate of commission regardless of which mortgage you eventually sign up to, so there will be an incentive to encourage you to go for the deal that yields them the highest commission.  The interest rate is not the be all and end all and you should consider the total package (application fees and any up-front costs, ongoing fees, features that are important to you, say a re-draw facility, service quality, and the costs associated with any related transaction accounts). 

You will also need to decide between a fixed and variable rate mortgage.  The latter usually provides the greatest flexibility, however it does leave you exposed to mortgage rate changes.  Fixed loans can provide some certainty, but this certainty may come at a price as well as lack of flexibility.  As a general rule, the total amount you repay over a typical 25 year mortgage term is likely to be similar regardless of whether you take a variable rate or a succession of fixed rate terms and it all boils down to personal preference.  If in doubt, check with your mortgage provider if they can split the mortgage – some variable, some fixed. 

3 – Paperwork and getting pre-approval

After you’ve done your homework, it’s time to apply for your mortgage.  The loans officer or mortgage provider will need to see evidence of your savings and income.  Copies of bank statements and any investment balances are essential, together with copies of recent payslips (if you are employed) or the last 2-3 years taxation returns (if you are self-employed).  Requirements may vary so it is a good idea to check what you need to take at the time of making the appointment.  If you are going to be a bew customer, you will also need to provide identification.  The more documentation that you can provide at the outset, the less hassle involved and the smoother the transaction.

If you don’t have a specific property in mind, it can be a good idea to seek a pre-approved loan.  What this means is that they will provide tentative approval for a mortgage amount to buy a property of a certain value.  It can be a valuable bargaining tool when you start looking around at properties as the real estate agent will know that the purchase is pretty much a done deal.  Provided you adhere to the conditions of the pre-approval, it is unlikely that the mortgage will not be formally approved once specific details of the purchase are known.  This can be a better approach than the traditional method of finding a suitable home, signing a contract subject to finance approval, and only then think about applying for a mortgage.  And less likely to lead to disappointment.

Applying for your first mortgage is not something to be taken lightly.  There are traps and pitfalls for the unwary and you don’t to spend the next 25 or 30 years locked into a mortgage that isn’t right for you and/or that you are struggling to repay.  Sometimes, waiting a bit longer and saving up more of a deposit can be a good thing.  The first step will help to determine whether you are in the position to even think about buying your first home.  The other two steps will help you to be prepared and go into this major financial commitment with your eyes open and find the mortgage that is right for you.