Buying a house is the biggest and most complex purchase most people ever make. Developing a plan a year or more before you’d like to move in can help you buy a home with confidence.
Preparation begins with understanding how to save for a house and getting your finances in order. Start by paying off credit card debt and other debts. Set a realistic budget, cut unneeded expenses, and start saving extra money for your down payment. Building a down payment fund that’s appropriate for the house you want to buy may take a few years, but it’s worthwhile.
1. Build a budget
Knowing how to budget for buying a house is an important first step. You’ll need a solid understanding of where your money currently goes and what changes you might need to make to be prepared for the expenses that come with purchasing a home and home ownership.
How to budget for buying a house
Determining what you can afford when you’re looking to buy a home will give you confidence that you can comfortably make your monthly payments down the road. One basic guideline to follow is called the 25% rule, meaning your house payment should not be more than 25% of your monthly income. Consider a lower percentage if you have other significant financial obligations, like a large amount of debt to pay off.1
1. Determine household income after tax
Your household income after tax, or net household income, represents the amount of disposable income you have to spend on things like a house payment. You calculate it by subtracting all federal, state, and withholding taxes from your total income. Your net household income is what’s left.2
2. List your monthly expenses
A spending tracker can help you determine and prioritize your monthly expenses. It’s easy to start with recurring monthly payments, like those for your cell phone, loans, utilities, memberships, and subscriptions. Next, consider what you typically spend each month on groceries, transportation, entertainment, and eating out. Also factor in things like education, childcare, health expenses, and charitable contributions.3
3. Pay off debt
Paying off your short-term debt can help you focus on other financial goals, like buying a home. It can also improve your credit score, which impacts your mortgage loan approval, as well as the interest rate and other costs you pay on that loan. Qualifications vary by lender, but generally a score in the 700s will get you a loan with the lowest interest rate, while scores that drop below 660 may not be considered for a conventional mortgage. There are other loan options if you have a bad credit score, but it’s worth the time to improve your credit and make yourself eligible for a better interest rate.4
4. Determine the down payment and closing costs
The size of your down payment affects how much home you can afford and the interest rate you can negotiate for a home loan. You can avoid private mortgage insurance with a down payment of at least 20%, which saves you money on your monthly payment. But the National Association of Realtors found the average down payment was 12% in 2019. The average was even lower for first-time buyers at 7% or less, and borrowers with down payments of less than 5% can still qualify for mortgages. Even during times when lenders offer modest terms, saving is still worthwhile.5
5. Determine other recurring expenses
When you’re considering your budget for buying a home, you’ll want to factor in the recurring expenses that come with home ownership. You’ll be required to have homeowners insurance and pay property taxes. You’ll also want to account for monthly utilities and maintenance. Additionally, you may need to budget for private mortgage insurance and homeowners association fees.6
6. Add up all expenses
Now that you have an idea of the costs and expenses that come with buying and owning a house, add them up and use that amount to help you determine how much home you can afford. If you find that you can’t afford your dream home, just remember that buying a home within your budget may give you better peace of mind and more financial flexibility.
2. Save for a down payment
Figuring out how to save for a down payment, especially one large enough to help you qualify for a lower interest rate, may seem like a daunting task. But it really is achievable with the right planning and commitment. Plan to put away a set amount of your income each month in savings, and then add what you can to that amount by trimming back on unnecessary expenses like eating out. It can accumulate quickly and be well worth it when the time comes to buy a house.
Why saving for a down payment is important
There are good reasons why saving for a significant down payment makes sound financial sense:
- You become a better credit risk. Making a large down payment increases your investment in your new home, which makes you a better credit risk for your lender because you have more at stake. Having more equity in the home may help you qualify for lower interest rates for this mortgage as well as for other loans you may eventually need, such as auto loans.
- You pay lower monthly payments. The less you borrow, the less you must repay, and the lower your monthly mortgage payments will be. For example, if you put 20% down on a $330,600 home (the median sale price reported by the U.S. Census Bureau for October 20207) and choose a 30-year fixed rate mortgage for the balance at 3.874% interest, your monthly payment (principal plus interest) will be $1,243. But on the same mortgage with 10% down, your monthly payment increases to $1,398.8
- You can avoid PMI premiums. When your down payment is at least 20% of the purchase price of your new home, you may not be required to buy private mortgage insurance (PMI). With PMI rates ranging from 0.5% to 1.5% of your loan, avoiding this expense can save you thousands of dollars per year. If your down payment is lower than 20%, you can cancel your PMI insurance once you have 20% equity in your home.9
- You have an edge in bidding wars. When real estate deals fall through, it’s usually because buyers can’t get the financing they expected. Higher down payments indicate buyers have the resources to close the deal. When sellers are evaluating multiple buyers, those with higher down payments have a competitive edge.
3. Determine when you will purchase a home
Saving for a house takes time, and having a realistic timeline will help you plan for and achieve the financial goals you set. If you allow yourself several years to save, that could mean a bigger down payment and all the benefits that come with it. If you are looking to buy a home within a shorter timeframe, however, you’ll want to develop a more aggressive savings strategy, or budget for a less expensive home.
4. Set up a savings plan
A solid savings plan can help you reach your goals faster. Start by allocating a set amount of your income for savings. Using automatic savings methods, like direct deposit with your paychecks or monthly transfers from your checking account to your savings account, will help you stick to your plan with less effort. You could also designate specific types of income for savings, such as bonuses or tip money.10
5. Tighten your spending
As you work through how to save to buy a house, consider traditional and creative ways to save money. Packing meals for work, keeping your car an extra year, using the library, and opting for a staycation provide easy and temporary spending cuts that can help you save significantly more.
6. Pick up a side job
A side job is a very effective way to increase your savings, especially if you’re able to put all or most of your income directly into your savings account. Consider your skills and hobbies to find a good fit that pays well – such as tutoring, photography, or woodworking. If you want even more savings, a side job can take the place of a membership or subscription you no longer need. For example, you could get your exercise from dog walking instead of paying to use the treadmill at the gym.
Benefits of planning for homeownership
While planning a big down payment is helpful when purchasing a home, it benefits you in other ways, too. By looking seriously at the costs associated with homeownership and the state of your own income and expenses, you are more likely to focus on your financial goals and how to achieve them. Then, with a realistic assessment of your situation, you can take the necessary steps to find a house you can afford that also meets your needs.
Not all the benefits to planning are financial. Buying a home is a big commitment and can be a stressful experience – two in five first-time homebuyers felt anxious and another 44 percent felt nervous throughout.11 It’s reasonable to have reservations about the total expense of homeownership as well as the effects on other aspects of your life, such as free time and vacations. Deciding to save money for a home, therefore, can inspire you to reassess your finances, lifestyle expectations and even the significant relationships in your life.
Developing a plan to buy a home and saving for a down payment can help establish a pattern of savings and trigger conscious decisions about debt that will serve you well throughout your life. When the actual house-hunting process begins, you will be prepared and able to move quickly when you find the right house to call home.
When it comes to your financial goals, like buying a home, you don’t have to approach them alone. Finding the right financial professional can set you up with the knowledge and expertise to make the right decisions now and for your future.
 “What House Can I Afford?” https://www.thebalance.com/what-house-can-i-afford-2385733 (May 25, 2020).
 “After-Tax Income Definition,” https://www.investopedia.com/terms/a/aftertaxincome.asp (June 15, 2020).
 “CFPB Spending Tracker,” https://files.consumerfinance.gov/f/documents/cfpb_well-being_spending-tracker.pdf (accessed Dec. 9, 2020).
“What Credit Score Do I Need to Buy a House?” https://www.credit.com/loans/mortgage-questions/check-your-credit-score-report-before-buying-home/ (Feb. 28, 2019).
“How much is a down payment on a house?” https://www.bankrate.com/mortgages/how-much-is-a-down-payment-on-a-house/ (Feb. 18, 2020).
“Owning a Home: The Monthly Tally,” https://www.hgtv.com/lifestyle/real-estate/owning-a-home-the-monthly-tally (accessed Dec. 10, 2020).
“Monthly New Residential Sales, October 2020,” https://www.census.gov/construction/nrs/pdf/newressales.pdf (Nov. 25, 2020).
“Mortgage Calculator,” https://www.bankrate.com/calculators/mortgages/mortgage-calculator.aspx (accessed Dec. 10, 2020).
“What Can I Expect My Private Mortgage Insurance (PMI) Rate to Be?” https://www.investopedia.com/ask/answers/081214/average-what-can-i-expect-my-private-mortgage-insurance-pmi-rate-be.asp (Nov. 9, 2020).
“Develop a Savings Plan,” https://www.smartaboutmoney.org/Courses/Money-Basics/Spending-And-Saving/Develop-a-Savings-Plan (accessed Dec. 10, 2020).
“How Much Stress Does Homebuying Really Cause a First-Time Homebuyer?” https://www.homes.com/blog/2018/08/how-much-stress-does-homebuying-really-cause-for-a-first-time-homebuyer/(Aug. 14, 2018).