Can a new grad buy a house? Absolutely.
Will it be more challenging than for someone who is more well-established in their financial life? Probably.
“The homebuying process can be exciting and overwhelming at the same time,” says Rod Griffin, senior director of consumer education and advocacy at the credit bureau Experian. “Taking steps to get your financial health and credit standing in order now can increase the chances that you’ll have a good experience when you’re ready to purchase your first home.”
[Read: Best Mortgage Lenders]
What Are the Barriers to Buying a House As a New Graduate?
New college graduates face the same qualification standards as any aspiring homeowner but generally have fewer years to meet them.
“Often, new grads are younger with perhaps less financial experience than older prospective homebuyers,” Griffin says. “This can present a few challenges, including having a strong enough credit history to qualify for a mortgage and enough money for a down payment.”
Barriers to buying a house as a new graduate may include limited credit history, low income, a high debt-to-income ratio and limited savings.
Limited Credit History
Your credit history and score are key factors lenders consider when you apply for a mortgage. You’ll generally need a credit score of at least 620 to qualify for a conventional mortgage, and you may be able to get a government-backed loan with a score as low as 500.
New college grads who haven’t had the time to build a long credit history may struggle to meet credit requirements. The length of your credit history accounts for 15% of your FICO credit score, and it can take time to build strong credit. While 15% is significant, your history of on-time payments and how much debt you have compared with your available credit are bigger factors for your credit score.
Low Income
Income is another key factor in qualifying for a mortgage because lenders want to know you have adequate resources to make your mortgage payments each month. Again, this can put new college grads at a disadvantage because entry-level salaries can be low. Lenders also generally prefer income from a salary or regular wage over income earned through commissions or tips. If the bulk of your income is from variable sources like tips, your lender may want a larger down payment or only qualify you for less expensive houses.
High Debt-to-Income Ratio
Your debt-to-income, or DTI, ratio is your gross monthly income compared with your monthly debts. Lenders use it to determine whether you’re able to manage your current liabilities and take on even more debt. The lower your DTI ratio, the less risky you appear as a borrower and thus the easier it will be for you to qualify for a mortgage.
Lenders typically prefer DTI ratios of 36% or less. You could have trouble qualifying if your DTI ratio is 43% or higher. With a higher DTI ratio, you may have to meet other requirements, such as having a higher credit score and level of cash reserves.
Limited Savings
The median down payment was 14% between July 2021 and June 2022, according to the National Association of Realtors. This can be a hard sum to produce if you have limited savings, as many new graduates do.
To make matters even more challenging for new grads buying a home, lenders prefer borrowers who have been accumulating savings over an extended period of time over large, one-time deposits. Still, it’s possible to get a loan with a low down payment, such as 3%, and down payment assistance programs can also help qualified borrowers.
[Read: Best FHA Loans.]
What Loan Options Can You Consider?
There are some loan programs that can help a new grad buy a house. Look for a local lender, as they’ll know the region best, says Mark Charnet, founder and CEO of American Prosperity Group, a New Jersey-based financial planning firm. You can consider the options below and other first-time homebuyer programs.
FHA Loans
A great place for new grads buying homes to start is with the Federal Housing Administration loan. Since the loan is insured by the FHA, lenders can have more lenient qualification requirements. The home you wish to purchase must be your primary residence, your DTI ratio should generally be under 43%, and you should provide proof of employment and steady income. If you have a credit score of at least 580, you can make a 3.5% down payment. You can still qualify with a score as low as 500 if you make a 10% down payment.
Fannie Mae HomeReady
Fannie Mae HomeReady is a low-down-payment-loan program designed to help homebuyers with low income and limited savings purchase a home. You can qualify with a down payment as low as 3%, funded with gifts, grants and other sources besides your personal savings.
An additional requirement for first-time homebuyers is that at least one borrower take a homeownership education course, which could be a good idea for a new grad buying a home regardless.
Mortgage with a Co-Signer
Another strategy for improving your chances of qualifying for a mortgage as a new grad is to use a co-signer who meets the requirements that you do not. A mortgage co-signer is someone who takes legal responsibility for repaying the loan if you stop making payments but has no rights to the home. However, some lenders may not allow co-signers, and the guidelines may vary among those that do.
[Read: Best Adjustable-Rate Mortgage Lenders.]
What Are the Pros and Cons of Buying a House as a New Grad?
While a new college grad may be able to buy a home, it may not be the best move financially. You should consider the pros and cons to buying a house as a new grad before signing the mortgage agreement.
Pros of buying a house as a new grad can include:
— Building equity. As you repay the principal on your mortgage loan, you’ll be increasing the equity in your home, or how much your property is worth minus how much you owe. This equity can be tapped later to repay debts or even purchase a second home, Charnet says.
— Getting tax deductions: Another benefit to owning a home over renting is that mortgage interest up to the first $750,000 (or $375,000 if you’re married filing separately) is tax deductible, while rent is not.
Cons of buying a house as a new grad can include:
— Having less mobility. “One con to purchasing a house as a new graduate may include having to relocate for a new job shortly after purchasing,” Charnet says. It can be harder to sell a home than to cancel a rental agreement, and selling shortly after buying won’t give you much time to build equity.
— Needing to delay other life goals: The cost of purchasing a home could make it hard to accomplish other life goals, such as a having a wedding or starting a family, Charnet says.
Tips for Building Strong Finances After College
“My advice to recent grads is to make sure their credit scores are where they need to be to qualify for the best mortgage terms and rates before they apply,” Griffin says. “When you get your credit score, it will list the risk factors that are most affecting your score.”
You can check your credit reports for free at AnnualCreditReport.com. The information in your credit reports informs your credit score.
“Before applying for a mortgage or any type of credit, you should limit any kind of activity that may give lenders the perception that you are higher risk” as a borrower, Griffin says, such as missing payments, increasing the balances you carry on credit cards or applying for a lot of new accounts in a short period of time.
On the other hand, also avoid closing credit card accounts because this will reduce your available credit and cause your credit utilization rate to increase, “which can result in a temporary dip in your credit scores,” Griffin says.
While focusing on building your credit ahead of a home purchase is important, it’s equally if not more important to remember that a home is just one part of your broader financial picture.
“A home purchase should first be viewed as a place to live and raise a family, but also as an investment,” Charnet says. “Pay down the mortgage as quickly as possible,” but not at the expense of jeopardizing your other savings and investments.
Ensure you have an emergency fund that can cover three to six months’ worth of living expenses and also prioritize 401(k) contributions.
“One day, before you know it, you’ll be retired and the rest of your life will be based on what you did and sacrificed to accumulate dollars and assets along the way,” Charnet says. “May your Social Security check be gravy and something you do not require to retire comfortably because you built a superior portfolio along the way toward your retirement.”
More from U.S. News
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Complete Checklist of Documents Needed for a Mortgage
Guide to Buying a House After Graduating College originally appeared on usnews.com
