Paying off debts: Mortgage pre-approval edition
January 29, 2019 6:55 AM Subscribe
We're thinking of buying a house later this year. We're not ready to apply for a pre-approval yet, but I'm about to get a hiring bonus at my new job. What's the best balance between cash on hand, paying down 0% APR credit card debt, and paying down low-interest student loans?
Currently, we have low to mid 5-figure amounts in the following areas (from smallest to largest):
- Savings account.
- Credit cards with 0% interest for the next 9 to 12 months (used to pay for wedding/honeymoon).
- Student loans with interest rates between 3% and 6%
Our general strategy has been to:
a) Keep the cash "emergency savings" buffer at the current amount.
b) Divide each credit card balance by the number of payments until the 0% period ends, and pay that amount plus new purchases each month so the cards will be paid off before we start accruing interest.
c) Throw extra cash at the highest interest student loan.
Now that buying our first home is coming into the mix, what is the best way to revise this strategy?
Assume that:
1) We want to continue the above strategy as much as possible. Under the current plan, we would use the hiring bonus to pay off the last 6% student loan, and the remaining loans are 5% or less.
2) We will eventually need cash for closing costs etc., but could build this up later if it makes sense to use cash now for debts.
3) The goal is to get the best mortgage rate and amount.
4) Down payment will be funded elsewhere.
5) While I understand that it probably makes more sense just to apply for the pre-approval and do what they recommend, for *reasons* we are not ready to do this yet.
Currently, we have low to mid 5-figure amounts in the following areas (from smallest to largest):
- Savings account.
- Credit cards with 0% interest for the next 9 to 12 months (used to pay for wedding/honeymoon).
- Student loans with interest rates between 3% and 6%
Our general strategy has been to:
a) Keep the cash "emergency savings" buffer at the current amount.
b) Divide each credit card balance by the number of payments until the 0% period ends, and pay that amount plus new purchases each month so the cards will be paid off before we start accruing interest.
c) Throw extra cash at the highest interest student loan.
Now that buying our first home is coming into the mix, what is the best way to revise this strategy?
Assume that:
1) We want to continue the above strategy as much as possible. Under the current plan, we would use the hiring bonus to pay off the last 6% student loan, and the remaining loans are 5% or less.
2) We will eventually need cash for closing costs etc., but could build this up later if it makes sense to use cash now for debts.
3) The goal is to get the best mortgage rate and amount.
4) Down payment will be funded elsewhere.
5) While I understand that it probably makes more sense just to apply for the pre-approval and do what they recommend, for *reasons* we are not ready to do this yet.
Best answer: You could call a loan officer or mortgage broker and just have a chat, laying out the above. See what they say. You could also pre-qualify (instead of pre-approve) which is less of a deep dive into your finances and is mostly a signal to your agent and the sellers agent that you are actually thinking of buying and not just kicking tires so-to-speak.
Is the downpayment a gift? I would also talk this over with the mortgage broker, there might be some stipulations around this - not a big deal, just some extra stuff to handle.
Finally, if you've got multiple credit cards and student loans and are just starting a new job, you might not be quite ready to buy. You might be set up for a killer income but you haven't gotten one cent of it yet. There is no harm in cashing some paychecks and paying all your debt and starting your search next year. Also, home-buying and home-ownership is more expensive than anyone thinks it is, it's a natural law.
posted by everythings_interrelated at 7:08 AM on January 29, 2019 [7 favorites]
Is the downpayment a gift? I would also talk this over with the mortgage broker, there might be some stipulations around this - not a big deal, just some extra stuff to handle.
Finally, if you've got multiple credit cards and student loans and are just starting a new job, you might not be quite ready to buy. You might be set up for a killer income but you haven't gotten one cent of it yet. There is no harm in cashing some paychecks and paying all your debt and starting your search next year. Also, home-buying and home-ownership is more expensive than anyone thinks it is, it's a natural law.
posted by everythings_interrelated at 7:08 AM on January 29, 2019 [7 favorites]
If you are making the minimum payment, there is no reason to pay any more on the zero percent cards until the month it is due, since you know you'll have the money on hand. I'd probably pay them off one month early for peace of mind.
The goal is to get the best mortgage rate and amount.
Then maximizing your credit score and shopping around are your priorities. Places like Credit Karma will offer tips on how best to improve your scores. As above, utilization percent is a big one that people overlook and there may be others. Some will be out of your control, like average age of accounts, but others will show you that sometimes a good idea won't actually help your score. For example, maybe your oldest account has high interest and low limit, so you think about getting rid of it. But, the age of your oldest account can factor into your score, so wait to close it until after the mortgage closes if you really need to close it at all.
posted by soelo at 7:12 AM on January 29, 2019
The goal is to get the best mortgage rate and amount.
Then maximizing your credit score and shopping around are your priorities. Places like Credit Karma will offer tips on how best to improve your scores. As above, utilization percent is a big one that people overlook and there may be others. Some will be out of your control, like average age of accounts, but others will show you that sometimes a good idea won't actually help your score. For example, maybe your oldest account has high interest and low limit, so you think about getting rid of it. But, the age of your oldest account can factor into your score, so wait to close it until after the mortgage closes if you really need to close it at all.
posted by soelo at 7:12 AM on January 29, 2019
The different types of accounts can also affect your score, so if you have two different types of student loans, it may be worth it to keep them both open for a bit, as long as you are current on payments.
posted by soelo at 7:13 AM on January 29, 2019
posted by soelo at 7:13 AM on January 29, 2019
Response by poster: What's your debt-to-available credit ratio on the credit cards?
It's about 30% - I know below 20% is better for your credit score, would this be true for mortgages as well?
Is the downpayment a gift?
Yes, but already in our possession.
posted by Chaussette Fantoche at 7:28 AM on January 29, 2019
It's about 30% - I know below 20% is better for your credit score, would this be true for mortgages as well?
Is the downpayment a gift?
Yes, but already in our possession.
posted by Chaussette Fantoche at 7:28 AM on January 29, 2019
Best answer: I like how you are planning to pay off those credit cards so that they hit zero just as the 0% promotion ends.
In general, I would let any low-interest student loans languish as long as possible, e.g. full term of 20 years. Instead put way more money into investments. The three big ones would be to invest in your house, invest (pre-tax) in 401k, invest (post-tax) in mutual funds. The earlier you start on all these, even in small amount, the better. Ask me how I know ...
In my experience, the first three years of first home ownership is an exercise in stimulating the local economy. You will buy so so many things, from appliances to home repairs to yard tools. So have lots of buffer in your budget for that.
posted by intermod at 8:12 AM on January 29, 2019 [2 favorites]
In general, I would let any low-interest student loans languish as long as possible, e.g. full term of 20 years. Instead put way more money into investments. The three big ones would be to invest in your house, invest (pre-tax) in 401k, invest (post-tax) in mutual funds. The earlier you start on all these, even in small amount, the better. Ask me how I know ...
In my experience, the first three years of first home ownership is an exercise in stimulating the local economy. You will buy so so many things, from appliances to home repairs to yard tools. So have lots of buffer in your budget for that.
posted by intermod at 8:12 AM on January 29, 2019 [2 favorites]
Best answer: As someone who just bought a home, I heartily second the advice to hang onto the cash. You will spend so much time at Lowe's they will know you by name.
posted by backwards compatible at 8:28 AM on January 29, 2019
posted by backwards compatible at 8:28 AM on January 29, 2019
Best answer: More important than your utilization will be your DTI--your debt to income ratio. The lender will (I believe, but am not 100% sure), calculate your monthly debt service using the normal APR on the card, not the temporary 0%. Your DTI should really not be above 30%, though often lenders will make a loan at a figure above that. Anything more than 35% is asking for ruin, unless you are truly wealthy. I'm not being theoretical here; I spent quite a bit of time looking at defaulted mortgages at one point in my career, and DTI is a good predictor of default.
You may be feeling flush at the moment, but in fact you currently have--I'm guessing based on your description--around $50K of outstanding debt? Wait a year or so. You will be much happier. You will need free cash for all the moving/renovation expenses and the repairs you will discover are essential just after moving in (search for other questions about housebuying on Mefi and heed the stories about how those suddenly materialize!). Also, if you find you hate your new high-paying job (I hope not, but it happens), you will hate it even more if you can't leave because you're cash-strapped and/or can't service the mortgage if you do.
posted by praemunire at 10:34 AM on January 29, 2019 [4 favorites]
You may be feeling flush at the moment, but in fact you currently have--I'm guessing based on your description--around $50K of outstanding debt? Wait a year or so. You will be much happier. You will need free cash for all the moving/renovation expenses and the repairs you will discover are essential just after moving in (search for other questions about housebuying on Mefi and heed the stories about how those suddenly materialize!). Also, if you find you hate your new high-paying job (I hope not, but it happens), you will hate it even more if you can't leave because you're cash-strapped and/or can't service the mortgage if you do.
posted by praemunire at 10:34 AM on January 29, 2019 [4 favorites]
This thread is closed to new comments.
The credit utilization number only really matters starting a month or so before you apply for a mortgage, though. So if your credit utilization is high, it would be good to get it as low as possible two months before you apply for your mortgage.
posted by mskyle at 7:04 AM on January 29, 2019 [2 favorites]