Purchasing a house is becoming increasingly complicated, considering the average cost of housing continues to rise.
According to the Canadian Real Estate Association, there was a 25% increase in Canadian homes’ overall average market price in the last year. The spike in America was slightly less, with a 13.2% increase compared to the average market price in 2020, according to the S&P CoreLogic Case-Shiller Indices.
We’re told that the purchase price of our home should be no more than four times that of our annual income.
This was the dilemma I faced when I purchased my first home while I was a full-time university student earning an hourly wage of $17.00/hour. Like many others interested in building wealth, my goal was to find my way into the real estate market, regardless of my income at the time.
I analyzed my situation and concluded the best strategy to make my goal a reality was to reverse engineer my way in. From here, I broke down my end goal into incremental mico-goals assigned to attainable time-frames.
I’m writing this article to demystify what it takes to start building wealth when the odds seem stacked against you. My story is shared by so many others, and I want to offer tips on how to start building wealth.
1. Pay Off Old Debts
To start, I was lucky. I bypassed the debt payment step because I had none. As a consequential added bonus, it increased my chances of getting approved for a mortgage, considering my low wage.
Debt sucks; that’s something we can all agree on. But what sucks even more, is compounding debt onto an already maxed out financial statement.
I recommend reviewing your net worth and overall financial health prior to setting out on a journey to becoming a homeowner.
You can still purchase a home with outstanding debt. But, keep in mind your debt-to-income ratio will impact the loan amount. As a rule of thumb, in Canada, you want to stay below the 40% mark and below 36% in America (being subject to change).
Furthermore, banks are less likely to approve a mortgage with a relatively low income coupled with a large amount of debt.
How to tackle this issue:
- Get another job to increase your income to derive a lower debt-to-income ratio.
- Pay down your debt with your annual tax return, work bonus, or any irregular earnings.
2. Calculate the down deposit required
This is where math came into play. I needed to determine if and when I could afford the required down deposit before moving forward.
Initially, I assumed I needed a 20% down deposit as a requirement, but I was wrong. In fact, 5% is the bare minimum for a primary residence.
I also learned that a down deposit below 20% would require me to purchase CHC mortgage default insurance. This would be added to my monthly mortgage payment. Since I wanted to make the purchase sooner rather than later, I moved forward with a 5% down deposit.
Forging ahead, I decided that based on housing prices in my geographic location vs. my overall financial situation, I would be comfortable with a purchase price of $400,000.
Alas, I needed to save $20,000 before I would be ready to reach out to a mortgage broker.
3. Set a deadline and time frame for micro-goals
Like any other goal, the best way to execute it is to strategize an achievable time frame for each micro-goal.
I set a time frame of two years to get me from the planning stage to the ready stage. This meant I would need to break down how much to set aside monthly to accumulate $20,000 within 24 months.
I calculated that I needed to set aside an additional $833.00 every month consistently to succeed.
A few strategies I adopted:
- I worked as much overtime as I could. This meant I needed to be more strategic in my spare time for studying and homework.
- I allocated a percent of my annual tax return into my down deposit savings account to offset any monthly failures.
- I managed to reduce my monthly variable and miscellaneous spending by roughly $200. This dropped my mandatory monthly savings from $833.00 down to $633.00.
As anticipated, I reached my goal. To my surprise, I reached it earlier than expected. This could be attributed to my added discipline, which resulted from reaching my monthly goals.
If you’re struggling to save money to pay down debt, you might find this article useful.
4. Calculate at least six months worth of bills and save it
A crucial factor that many people forget about when they’re planning to purchase a home is the overall monthly expense. You’re not simply swapping your rent for a mortgage payment.
Expenses increase significantly, and an emergency fund is vital to ensuring payments are made in the event of an emergency. Dealing with a bank can be more complicated and stress-inducing than a landlord.
Renting is generally cheaper than a mortgage. As a homeowner your monthly bills grow significantly when you factor in utilities for a larger space, property tax, community fees, condo fees if applicable, home insurance, house maintenance fees, etc.
Saving is something that has always been a top priority for me, even with a limited income.
To ensure I was prepared with six months’ worth of bills, I calculated a liberal estimate of my monthly expenses — $2,000.
Based on my math, $12,000 was the golden number. I was already prepared with an emergency fund that would cover this cost, so I skipped this step again.
If I lacked the funds, I would have added one additional year to my goal to ensure I was financially prepared with both the down deposit and a six-month emergency fund.
Finally, I was nearing the end of my strategy, and it was looking both attractive and feasible.
5. What is your credit score?
Checking my credit is something I do regularly through my monthly membership with a credit reporting agency. I was satisfied with my standing at the time and knew that it would work in my favor.
My only responsibility here was to maintain it.
A few things are taken into account when we apply for a mortgage to determine both the eligibility and the loan’s interest rate. A credit check is taken into account and based on the score, it can make or break the application process.
Say, for example, you’re prepared to apply for a mortgage, but your credit score is slightly below average. Suppose all else meet the requirements, and you’re approved. In that case, your poor credit rating could prevent you from receiving a desirable interest rate.
A few tips to increase your credit score are:
- paying down debt
- lowering your credit utilization rate (don’t max out credit)
- making your payments on time.
When it comes to your credit score, the higher, the better. I was lucky that my credit score was within a range that qualified me for one of the best rates at the time. This dropped my monthly mortgage payments to a more attractive amount.
From here, I was ready to get my application rolling.
And that is it. My seemingly effortless, yet challenging in practice, journey to becoming a homeowner.
Building wealth and moving up the socioeconomic ladder should not be reserved for the already wealthy. There are ways in which each unique situation can be tailored to achieve a specific outcome, but this takes dedication, strategy, and a precise goal.
With the proper guidance, I believe most people can build wealth and move past adversity.