5 Common Mistakes First-Time Homebuyers Make
A home is the single biggest asset the majority of Americans will ever own. Yet few people know anything about real estate, much less the actual process of buying a home.
How are closing costs accounted for? What about the process of getting a mortgage? How should one decide whether a particular house is the one?
Over the last few weeks, I've consulted multiple experts in the field to find the answer to these questions and more in an effort to shed light on one of the most important financial decisions in most people's lives.
With this in mind, what follows are five of the most common mistakes that real-estate and mortgage professionals see people make when they purchase a home.
1. Assuming your home will be a positive, long-term investment
"If we learned anything from the financial meltdown, it's that the real estate market is not always dependable, especially in the short term," Portland's Erin McGovney of Living Room Realty told me. "Buy a home because you love it, can afford it, and want to live in it."
This is something we've talked about a lot at The Motley Fool. And it's something that should be discussed more.
From a financial perspective, a home is great because it forces you to save. In 2010, the median household had a net worth of $77,300. Of that, more than 60% consisted of equity in a home.
At the same time, to Erin's point, the evidence is clear that real home prices -- that is, home prices after adjusted for inflation -- go absolutely nowhere. And I mean this literally. In the century between 1890 and 1990, real inflation-adjusted home prices were virtually unchanged.
2.Forgetting that when you buy a home, you're also buying money
It's tempting to think of a home purchase as a single transaction, but you're actually making two purchases. "You're buying the home, and you're buying the money to buy the home," Dave Ness of Denver's Thrive Real Estate pointed out to me.
This is a critical nuance because it highlights the countervailing considerations that go into determining the actual price of a house. Of the two, in fact, Ness urges homebuyers to avoid getting "too focused on the cost of the home when it comes down to just a few thousand dollars, pay more attention to the cost of the loan."
This point was driven home by Coldwell Banker's Dee Ann Arey who noted the cumulative impact of fees and costs. "Most people don't realize that closing costs are in an addition to your down payment. They are caught off guard when they actually go under contract and see a net proceeds sheet."
3. Going it alone
A common refrain in the legal profession is that "A man who is his own lawyer has a fool for a client." And given the complexities of a real estate transaction -- which, for all intents and purposes, is nothing more than a legal transaction -- the same can be said about the real estate market.
"Because we are in the age of technology and everything is so accessible, it's easy to assume that agents are simply there to open the door for you when you call," says Arey. "But given that our homes are the largest investments most of us will make, why would you choose to navigate the process without an expert in your corner?"
This is an important point. While it's true that real estate agents aren't free, it's also true that a good one will more than offset their incremental cost. They have a better feel for the market than the typical person, and they also possess valuable negotiation skills that could end up saving you money.
4. Being too short-sighted and restrictive in your criteria
Preconceived notions are deceivingly dangerous. In the world of behavioral finance, they produce cognitive dissonance, which, in turn, yields confirmation bias -- that is, the tendency to only seek out information that is consistent with an existing opinion or belief.
While this may not seem like something that would be a big deal when it comes to picking a house, it was one of the three biggest mistakes that McGovney told me homebuyers commonly make. "Don't want to buy new or ranch style? Take a look at what's out there, then decide. You might surprise yourself."
Along these same lines, McGovney urges homebuyers to avoid focusing on things that are easily changed. "Don't like the kitchen or bathroom? Wish the house had different floors?" As she points out, these are things that can be changed over time. "Focus first on things like location and layout, which are much less malleable."
5. Developing champagne tastes on a beer bottle budget
The final mistake homebuyers commonly make involves not setting their expectations accordingly. "It's important to know what your budget is before developing champagne tastes on a beer bottle budget," Arey told me.
It's for this reason she encourages prospective homebuyers to get preapproved for a mortgage before they even start looking for a home. As she went on to note, "The only way to properly set your expectations before you find your dream house is to make sure you can afford it."
Everyone makes mistakes
It's unavoidable that you'll make a mistake the first time -- or, for that matter, any time -- you enter into a real estate transaction. But at the same time, I hope we can all take the advice of these seasoned professionals and make fewer of them as a result of it.
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