Tips for Millennials Who Want a Mortgage

A generation already buried in debt must be careful when purchasing a home.

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In this Tuesday, May 28, 2013, photo, a single family home is shown for sale in Surfside, Fla.
In this Tuesday, May 28, 2013, photo, a single family home is shown for sale in Surfside, Fla.

Millennials – those born in the 1980s or 1990s – have been raised with lofty American dreams of going to college and owning their own home. However, such dreams are expensive and have already placed millennials in debt. According to The Project on Student Debt, the average amount of student loan debt for the Class of 2011 was $26,600. As our generation moves out into the workforce, already burdened with student debt, how can we successfully take on mortgages?

For a generation inundated with big data and constant access to information, many of us didn't do our homework before taking on student loan debt. With total student loan debt rising above $1 trillion, we need to be smarter consumers when it comes to adding to our debt load with mortgages. Realtors and mortgage lenders work in sales and may not have your best interests at heart. Before you take on a mortgage, it is important to understand the costs associated with owning a home.

While the June 2013 Zillow Home Value Index for the United States is $161,100, the purchase price is just the beginning. While millennials may be familiar with mortgage interest rates, which currently stand at an average 4.4 percent for 30-year fixed rate mortgages, homeowners must also take into account both property taxes and homeowner's insurance costs, as well as paying down the principal. On top of that, many mortgage originators will also require mortgage insurance.

[See a collection of political cartoons on the economy.]

Maintenance and repairs paid by property managers when you rented, now fall on you if you own. And if you choose to live in that glorious gated community or condo setting, don't forget about possible condo fees. Other costs that can factor into your home purchase and loan processing include "points" in addition to your interest rate and closing costs.

Before taking the plunge, you need to evaluate if it makes sense to buy. Potential Veterans Administration home loan borrowers undergo pre-purchase counseling to determine whether a mortgage is truly affordable. While this type of borrower education is not mandatory for first time homebuyers, it's good practice. Below are some housing finance tips from one millennial to another to help you underwrite yourself:

  • Provide a healthy down payment when purchasing a home. While Federal Housing Administration insured loans will provide coverage with as little as 3.5 percent down on the purchase price for first time homebuyers, larger down payments provide equity (and security) in down markets. According to the Zillow Home Price Index, U.S. home prices dropped 17 percent from June 2007 to June 2013. With small down payments and large price swings, borrowers can find themselves quickly underwater with mounting mortgage payments and no way out.
    • Calculate your own debt-to-income ratio. While loan originators factor in your current outstanding debt, they may not be taking into account other costs of living including utilities, cable bills, and phone bills that you may consider essential. But if you want that dream home, is it necessary to go out to eat every other night? 
      • Build up your credit score. Your credit score can influence your interest rate when applying for a loan. In the year before you plan to purchase a home, make sure your credit history is as good as it can be. Then make sure your mortgage payments are made on time. Getting on automatic debit for the mortgage payments helps here.
        • Don't plan on refinancing your home, except to lower the interest rate. Alex Pollock of the American Enterprise Institute urges millennials to plan on owning their home outright, with no mortgage debt, by the time they are 60. Borrowers can also ask for 15 or 20 year loans or set up a bi-weekly payment program to shorten the life of a loan. And make sure to ask your mortgage lender whether there is any  pre-payment penalty.
        • [Read the U.S. News Debate: Should the Federal Government Provide Support to the Mortgage Market?]

          As conscientious and better-informed consumers, millennials can become successful homeowners by taking on the appropriate amount of debt and avoiding some of the costly mistakes made with student loans. With over 52,000 completed foreclosures in the Unites States in May 2013 alone, now is not the time to go into a home purchase uninformed.

          Emily Rapp is a financial services researcher at the American Enterprise Institute. 

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