Kevin Ward, Advisor
Real estate markets—particularly metropolitan markets like Chicago—can be challenging to navigate for home buyers (and sellers, for that matter—a topic for another day). Home prices in popular metro markets may only seem to rise compared to rural areas, making purchasing a home a daunting prospect. But in fact, all real estate markets tend to cycle over time—the key is being prepared to strike when the iron is hot, which requires a general understanding of the home-buying process and your personal financial position. So what does it take to buy a home in a metro market like Chicago? How do you know whether you’re ready to undertake the process?
How much house can I afford?
Before firing up your Zillow search, the first question to answer is how much of a house you can reasonably afford. If you have one, your financial advisor can likely help put home affordability in the broader context of your full financial picture. One rule of thumb is you should spend no more than approximately one-third of your monthly gross income on your house payment, including taxes, insurance, principal, and interest. Your mortgage payment (principal + interest) depends, logically, on the amount you borrow, which is why your down payment amount is important. Your down payment also impacts whether you’ll need to purchase private mortgage insurance (PMI), which may be required for some buyers who put down less than 20% of the purchase price.
Another affordability consideration relates to the distinction between recurring and one-time expenses. In the recurring category are the mortgage, insurance, property tax payments, and ongoing maintenance or repairs. In the one-time category are the down payment, transfer taxes, closing costs, and larger one-time improvements/repairs. We will discuss closing in more detail shortly, but it’s worth noting closing costs can include many items, including recording fees, title transfer fees, inspection and appraisal costs, prepaid interest, and others—which costs will be borne by the buyer and seller will often be negotiated during the purchase process. (Another area where your financial advisor can help you plan, so these costs fit comfortably in your longer-term financial picture.)
Find a Mortgage Broker Early
Working early in the process with a mortgage broker can help you determine how much house you can afford and what mortgage structure—fixed vs. variable rate, government-insured, jumbo vs. conventional, etc.—may work best for you. By reviewing your income, assets, credit history, employment history, and other details of your financial situation, a mortgage broker can work to provide a pre-approval letter stating how much you’re likely to be approved to borrow. A pre-approval letter can help bolster the credibility and appeal of any offers you make as it signals to the seller and their broker that you are a serious buyer with a reasonable likelihood of obtaining the necessary financing to close the deal.
Find a Real Estate Broker Early
It’s also important to identify an experienced, reliable real estate broker or agent early in the process. (Note: The terms “broker,” “agent,” and “realtor” are used interchangeably but differ. For our purposes, these differences aren’t relevant, so for simplicity and clarity, we’ll use broker through the remainder of this piece.) Though we live increasingly in the age of online providers boasting superior technology allegedly capable of getting you in a home quickly and cheaply, it’s worth doing enough research to ensure your broker also has sufficient experience and knowledge of the market in which you’re looking.
With your team assembled, you’re ready to start looking. Your broker will sift current listings to show you properties that line up with your preferences and ideals. But a good broker may also challenge you to broaden your parameters—maybe to look at properties you doubt are a fit, but that will help you better zero in on the right choice—or to walk away when they believe a property isn’t in your best long-term interest. Your broker shouldn’t be out to close a deal as quickly as possible but to help you identify and, ultimately, purchase the right home for the years you foresee living there.
Narrow the Search
Though quite a bit of art is involved in helping clients find homes, you and your broker can also set some starting parameters to narrow your search universe. For example, what price range are you searching (bearing in mind it’s worth looking at homes just outside both ends of your range to get a sense of the market)? Which neighborhoods are you targeting? What amenities do you hope to find in a home? Related (and critically), do you want to find a home in perfect move-in condition, or are you willing to do some work? On the other end of the spectrum, would you prefer to find a fixer-upper and put all your own personal touches on it?
How do I write an offer to purchase a home?
After touring homes and identifying a property of interest, your broker will help you write an offer. Sometimes, the listing broker sets a specific offer date; other times, they accept offers as they come—your broker can determine how offers are being handled and help you proceed accordingly. If the seller receives multiple offers, they may choose to counter everyone simultaneously, effectively introducing a bidding situation in which you and your broker need to think strategically about how much you want the home and how high you’re willing to go to out-bid the other prospective buyers.
Contingencies
A major consideration when making an offer—particularly in a competitive market where multiple offers are likely—is whether you will include any contingencies. While contingencies can be critical to your ability to buy the home, they may also represent an impediment the seller may be unwilling to accept and could consequently decrease the likelihood your offer will be accepted, particularly in a hot market in which the seller receives multiple offers. For example, your purchase could be contingent upon obtaining financing, the sale of your current home, your ability to close on a specific date, or the home’s passing inspection (more to come).
Due Dilligence
Once both parties have signed an offer, you enter a period of attorney review during which the signed contract is considered provisional. Once all parties have finalized the contract, the deal enters a period of due diligence, culminating in the exchange of the title for the money and the deal’s closing. In some states, this process is handled by an escrow or title agent; in others, Illinois included, attorneys serve as the third-party facilitating the due diligence period and ensuring the title and money transfer smoothly and without issue.
Among the major activities during the due diligence period is the payment on the buyer’s part of earnest money—typically between 3% and 10% of the purchase price— effectively a signal of seriousness (hence the name, “earnest”). If the deal should fall apart, the buyer may forfeit the earnest money to the seller. Also taking place during this period is the contractor’s inspection, which your broker typically arranges. (Note: You may need a variety of inspections depending on the type of home and its condition, and if you either decide not to purchase the house or don’t reach an agreement with the seller, those will be sunk costs.) The inspector is generally tasked with providing a complete and thorough home inspection, reported via the inspection report. If anything is uncovered in the inspection that was not previously disclosed, the buyer and seller may be able to negotiate (via their brokers) how to proceed. Common remedies may include the seller’s repairing the issue themselves before the title changes hand; or they can credit the buyer back an agreed amount to cover the repair.
Appraisals
If the buyer is borrowing via a mortgage to purchase the house, this is generally the time at which the property will be appraised by a professional appraiser, often selected by the lending institution, to provide an estimate of the property’s value. It is often important the home appraises for at least the agreed purchase price—if it appraises for less, the bank may not be willing to lend as much to the buyer, which can jeopardize the deal if the buyer doesn’t have the extra cash to close.
Once the appraisal is complete, the title transfer process can continue and both buyer and seller will sign all the requisite closing documents as reviewed and approved by their attorneys, and the deal will be recorded.
End of Due Diligence
Typically, after roughly four weeks in the due diligence period, the transaction will officially close. The seller receives their funds, and you receive the title to the property and the keys to your new home.
Though a complicated and highly legalized process, purchasing a home can be a tremendously exciting process—which is worth remembering no matter how stressful the transaction itself may feel at the time. The key is engaging competent professionals—attorneys, mortgage brokers, real estate brokers, and financial advisors—who can help explain every step and ensure you are proceeding in the most sensible fashion. It’s a worthwhile endeavor for those seeking their dream home—particularly as market fluctuations, even in popular metro areas like Chicago, offer timely opportunities to well-informed and ready buyers.
Contact Us with Questions
If you have additional questions, please reach out to our team at breckenridgeteam@monetagroup.com.
© 2022 Moneta Group Investment Advisors, LLC. All rights reserved. The information contained herein is for informational purposes only, is not intended to be comprehensive or exclusive, and is based on materials deemed reliable, but the accuracy of which has not been verified. Examples contained herein are for illustrative purposes only based on generic assumptions. Given the dynamic nature of the subject matter and the environment in which this communication was written, the information and opinions contained herein are subject to change. This is not an offer to sell or buy securities, nor does it represent any specific recommendation. You should consult with an appropriately credentialed professional before making any financial, investment, tax or legal decision. Past performance is not indicative of future returns. All investments are subject to a risk of loss. Diversification and strategic asset allocation do not assure profit or protect against loss in declining markets. These materials do not take into consideration your personal circumstances, financial or otherwise.
