Much of the discussion on how much money you need to buy a house revolves around down payment and credit score requirements, but that's an incomplete way of assessing the cost. Several other factors need to be weighed into the equation. The one that most Realtors and mortgage brokers will bring up at the outset is the closing costs, but even these sums are not representative of the total cash you'll require if you're trying to get approved for a home loan.
As a general guideline, here's what you'll need to have available in your accounts to buy a house, as well as what you'll need to be able to prove you can pay monthly.
The down payment is the largest of these, but the rest add up pretty quickly. Bear in mind that some of them are figured into closing costs by your mortgage broker but actually need to be paid out earlier, directly to the service provider.
This is the part of the home's purchase price that you'll actually pay upfront. For most people it's between 5% and 20% of the price, but with FHA loans it can go as low as 3.5%, and for nonconforming loans or condominium loans, it could be 25%.
Separate from the down payment, closing costs are the other large lump sum you'll need to pay before closing on your house. They include many small fees and tax payments, including title-associated fees, lender costs, and attorney fees. Average closing costs are typically an amount between 3% and 5% of the home's purchase price.
Many first-time homebuyers don't account for closing costs in their budgeting, and this can cause a big problem as the closing date nears. However, both Realtors and mortgage brokers are familiar enough with the problem to forewarn their clients from the get-go.
Earnest money deposit (EMD)
The EMD is an amount in the range of 1.5% to 2% of the home's purchase price that the seller puts into escrow, which puts the house under contract. It can be applied toward either closing costs or the deposit as the transaction finalizes.
This is the first payment to a service provider that buyers are asked to make soon after putting in an offer on a home. A professional inspector of the buyer's choosing (and often of the real estate agent's selection, unless otherwise specified) comes to the house and carefully evaluates the condition of all the important structural and systemic features, as well as looking for other things like mold and water damage that affect the overall condition of the home. This costs in the range of $200 to $400 and is typically paid to the inspector directly.
This seems similar to the inspection, and in some ways it is, but the two processes have slightly different purposes in the scope of due diligence. A lender actually sends a professional appraiser out to look closely at the house and determine whether it's worth the loan amount being asked of the lender. The appraiser checks other features beyond what the inspector does, such as zoning classification and neighboring homes. This typically costs between $300 and $500 and is payable at the time the appraisal is conducted (or right before).
This is a confusing expense, because the costs appear multiple times in any breakdown of initial expenses for a home purchase. In calculating a monthly mortgage payment, real estate taxes, insurance, and homeowners association (HOA) fees are part of the total sum that lenders want to make sure borrowers can pay. However, certain taxes are also due at closing as part of the closing costs. Separately, there are "prepaids" -- a line item in closing costs referring to payments made in advance for certain costs, including HOA fees and private mortgage insurance (PMI).
Additionally, if your down payment is under 20% or if you have an FHA loan, there will most likely be an additional escrow account opened, where you will need to put money for other prepaid expenses, including a few months of property taxes and homeowners insurance paid in advance and available to the mortgage company.
Cash reserve requirement
It's very commonplace for lenders to require that would-be borrowers have a certain amount of money in savings or elsewhere in their assets, typically amounting to 6 months of mortgage payments, but 12 months is also common for people with loan applications that are weak in other areas. This money is in addition to the down payment. It gives the lender reassurance that even in the event the borrower loses their job or takes a pay cut, they'll still have a cushion to keep paying the mortgage till their financial situation improves.
Looking forward, what will you pay monthly?
Once you take care of all the one-time costs mentioned above, your monthly commitment will be the mortgage payment, homeowners insurance, and property tax.
You may wonder, if you already put three to four months worth of insurance and property tax into an escrow account, why must you continue paying it from the very first monthly mortgage payment? The answer is, because the lender wants to know you will always be able to pay those two bills on time, which they ensure by having you pay monthly into the escrow while they draw upon existing funds to pay the current payments.
One last expense just for HOA community residents
If you live in a planned development or a complex with an HOA, you will also have to pay monthly HOA dues. At first, these may be asked for in advance with other prepaid expenses. Over time though, you will get on the same payment schedule as others in the development.
How much in total to buy a house?
As you can see from this article, the savings you need to buy a house are considerably more than a down payment. The total amount needed can vary widely, depending on all the factors discussed here. However, by shoring up your credit profile and qualifying for a low down payment, you can minimize your largest one-time expense. And if you end up making a higher down payment, you may be able to save in other areas like prepaid taxes or cash reserves. With loan applications, like with so much else in life, the trick is to figure out where your strengths are and lean into them.
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