Getting A Mortgage in Your 20s
You’re twenty-something and you’re considering buying a place. Maybe you moved back in with your parents to save for a down payment – or you're living in a rental that gobbles up a huge chunk of your first grown-up paycheck and you don't feel you have anything to show for it. Unless Mom and Dad are rich, your great aunt left you a trust fund or you're a brand-new internet mogul, you probably won’t be able to straight out buy a home without taking on some debt.
That’s when it’s time to consider a mortgage – likely to be the biggest debt you ever take on in your life. Acquiring a mortgage, especially this early in your life, ties up a lot of your money in a single investment. It also ties you down and makes it less easy to relocate. On the other hand, it means you're starting to build up equity in a home, provides tax deductions and – if you handle it well – will add to your positive credit history.
Read on to understand what you’re getting yourself into and decide if it makes sense for you.
What Is a Mortgage and How do You Get One?
In simple terms, a mortgage is a loan used to buy a home where the property serves as collateral. Mortgages are the primary way most people buy homes; the total outstanding mortgage debt of the United States hovers just over $13 trillion.
Unlike opening a credit card or taking on an auto loan, the mortgage-application process is long and thorough. Very thorough. Going in, be ready with your Social Security number, your most recent pay stub, documentation of all your debts, three months worth of bank-account statements and any other proofs of assets, such as a brokerage account. If you've already found a house – much of the above also applies when you're just trying to be preapproved for a mortgage – bring as much information as possible about the place you want to buy.
See 5 Things You Need To Be Pre-Approved For A Mortgage to learn about the first step. Pre-approval can make it easier to have your offer accepted when you try to buy a home, which could be especially crucial if you're the youngest bidder. To understand the finer details of the actual mortgage process, check out Mortgage Basics.
Lenders will scrutinize your credit score and history, which may be problematic for twentysomethings who have a limited borrowing history (or none at all). This is where having student loan debt actually helps you – if you’re making your payments on time, you’ll likely have a good enough credit score for banks to feel comfortable lending to you.
Generally the better your credit score, the lower your interest rates will be. This is why it’s absolutely vital you handle debt responsibly and build credit at an early age. For tips on boosting your credit profile, check out 10 Ways to Improve Your Credit Report.
One of the biggest hurdles for first-time homebuyers is the down payment. Generally lenders want you to pay 20% of the total loan up front. You can get a mortgage for a smaller down payment, but your lender might require you take out private mortgage insurance to cover the greater perceived risk. This will add to your home's monthly carrying costs.
Is This the Right Time to Buy?
That’s the big question, isn’t it? Unless you somehow already own a home through divine providence, you’ve probably been paying rent and changing residences every couple of years or so.
Take into account these factors when you’re considering a mortgage:
- Where do you think you’ll be in the next 5 or 10 years? A mortgage is a long-term commitment, typically spread out over 30 years. If you think you'll move frequently for work or plan to relocate in the next few years, you probably don’t want to take out a mortgage just yet. One reason is the closing costs you have to pay each time you buy a home; you don't want to keep accumulating those if you can avoid it.
- How much real estate can you afford? What would you do if you lost your job or had to take many weeks off due to a medical emergency? Would you be able to find another job or get support from your spouse’s income? Can you handle monthly mortgage payments on top of other bills and student loans? Refer to a mortgage calculator to get some idea of your future monthly payments and measure them against what you pay now and what your resources are.
- What are your long-term goals? If you hope to raise kids in your future home, check out the area for its schools, crime rates and extracurricular activities. If you’re buying a home as an investment to sell in a few years, is the area growing so that the value of the home is likely to increase?
Answering the questions above will help you determine which type of mortgage is best for you:
- A fixed-rate mortgage is one in which the interest rate of the mortgage stays the same for the life of the loan. The current real estate climate makes this is a very attractive option (more on this in a moment).
- An adjustable-rate mortgage (ARM) is one where the interest rate changes at a set period according to a specified formula, generally tied to some kind of economic indicator. Some years you might pay less interest, in others you might pay more. These generally offer lower interest rates than fixed loans and might be beneficial if you plan to sell the home relatively soon.
The Current State of Real Estate
Getting a mortgage is a big financial commitment, but the current economic climate makes buying a home now very attractive.
Following the 2007 financial crisis, the U.S. Federal Reserve dramatically lowered its short-term interest rates and bought up a huge chunk of longer-term Treasury securities. Thanks to these low rates, banks have been able to lend money to each other and consumers at very attractive rates with minimal interest.
Even today, when rates have risen a little from the very lowest levels, prospective homebuyers can still secure mortgages with historically low interest rates. That situation could shift, making it worth buying a little sooner than you otherwise might have done.
To add some concrete numbers: Average rates today hover around 3.47%. Back in the '80s, it was difficult to find a mortgage with an interest rate of less than 10%; some years consumers had to pay as much as 18% or more.
Making a Mortgage More Affordable
There are a handful of ways to reduce the price tag associated with a mortgage:
- Tax breaks – Interest you pay on your mortgage is tax deductible. For more information, check out Tax Deductions on Mortgage Interest.
- Federal Housing Administration (FHA) mortgage loans – Loans through the FHA generally require smaller down payments and make it much easier for borrowers to refinance and transfer ownership.
- U.S. Department of Veterans Affairs Home Loan Guaranty Service – Perfect for twentysomethings returning from military service, VA home loans make it much easier for veterans to buy and afford a home; many of its loans require no down payment.
- U.S. Department of Agriculture Rural Development Housing & Community Facilities Program (HCFP) – Also backed by the federal government, the HCFP helps homebuyers in rural and under-banked areas find affordable financing options.
The Bottom Line
Home ownership can seem like a daunting prospect, especially as you’re starting your career and still paying off your student loans. Think long and hard before you take out a mortgage; it’s a serious financial commitment that will follow you until you either sell the property or pay it off decades from now.
But if you’re ready to stay in one place for a while, buying a the right home can be financially and emotionally rewarding. For more information see Ten Steps For First-Time Home Buyers and Credits For First-Time Home Buyers.