How to Get a Mortgage on a Tight Budget

1. Understand the Costs of Homeownership

When lenders review your mortgage application, they look for indicators that demonstrate you can afford the mortgage and other home-related expenses like property taxes, homeowners insurance and any homeowners association (HOA) fees. Set yourself up for success before you apply by taking the time to understand the costs involved with buying a home, such as:

• Down payment: You can purchase a home with as little as 3% down on a conventional loan, or put down 20% or more to avoid paying private mortgage insurance.
• Closing costs: Costs can vary depending on your location, loan amount and the type of loan you are getting. Generally, closing costs range from 2% to 6% of your total loan amount.
• Moving costs: The average cost to move locally is $1,250, while long-distance moves average $4,890, according to Moving.com.
• Property taxes: Check your county assessor’s office to determine your local property tax rate. Your property taxes may be included in your mortgage payment, or you might pay them directly.
• Homeowners insurance: Costs for homeowners insurance vary due to several factors, including your location, property and coverage amounts. Generally, you’ll pay about $35 monthly for every $100,000 in home value.
• Private mortgage insurance: If your down payment is less than 20% of your home’s value, you’ll likely have to pay private mortgage insurance (PMI), which usually adds roughly 0.5% to 1% of your loan amount each year.
• Homeowners association fees: If you buy a home in a neighborhood managed by an HOA, you’ll pay monthly HOA fees for pools, parks, security and other amenities.

Understanding the costs of owning a home can help you prepare for the funds you’ll need when you apply. It can also help you focus on choosing a property and loan type that match your budget and, consequently, increase your chances of qualifying for a mortgage.

2. Calculate What You Can Afford

By evaluating homeownership costs, income, expenses and debts, you can find a mortgage payment that fits your budget. When you apply for a mortgage, the lender will evaluate your ability to afford the mortgage payments, and by staying within your means, you present a lower risk of default. As such, you’ll increase your chances of loan approval and be able to make your monthly payments without financial strain.

A mortgage calculator can help you estimate your monthly payment. You’ll enter your home price, down payment, term and interest rate to determine your total monthly payment, including interest.

If you have a mortgage preapproval, you should have an idea of the interest rate you can expect to pay. Otherwise, you can estimate your interest rate based on your credit score. For example, if your credit score barely meets the lender’s minimum credit score requirement, you’ll likely face higher interest rates and fees than someone with good or excellent credit.

3. Save for a Down Payment

You may improve your chances of getting a mortgage by putting down a large down payment because it reduces your loan amount and the lender’s risk. Additionally, a larger down payment of at least 20% can help you avoid PMI, saving you money on your monthly payments.

Saving for a large down payment shows lenders you can manage money responsibly. Here are a few strategies to help you save for a down payment on a home.

• Cut discretionary spending. Spend less on non-essential expenses like dining, entertainment and streaming subscriptions and redirect the savings to your down payment fund.
• Automate your savings. Setting up automatic transfers to your dedicated savings account on payday can make it simple and easy to save and minimize the temptation to spend.
• Create additional income. Volunteer for overtime at your job or ask for a pay increase if you’re due one. Also, consider taking on a part-time job or a side hustle for additional cash you can save toward a down payment.

Consider saving your down payment funds in a money market account or high-yield savings account where you may earn more interest than a traditional savings account.

4. Explore Zero-Down Mortgages

No-down payment mortgages may be an option if you don’t have a lot of cash for a down payment. These loans are commonly available through government-backed mortgage programs, such as USDA and VA loans.

While you aren’t required to put down a down payment, you’ll likely need to meet other requirements related to your income, credit score and location requirements. For instance, you’ll need to submit a Certificate of Eligibility and supporting documents proving you’re a veteran to qualify for a VA loan.

5. Reduce Your Debt

If you’re saving for a down payment on a home, it may seem counterintuitive to allocate extra funds toward paying down your debt. However, your debt-to-income ratio (DTI), which measures the percentage of your gross monthly income used to pay your monthly debt payments, is one of the most influential factors lenders consider when reviewing your mortgage application.

The maximum DTI for a mortgage loan varies by the loan type but usually ranges from 36% to 43%. However, having a lower DTI could make you a more favorable candidate for a mortgage, increasing your odds of approval and securing better loan terms. To reduce your DTI ratio, consider paying down high-interest debt, refinancing or consolidating loans and avoiding new debt before you apply for a mortgage.

6. Take Advantage of First-Time Homebuyer Programs

If you’re purchasing your first home, you may qualify for one or more first-time homebuyer programs offered by federal, state and local governments, charities and employers. These programs, including the ones below, assist first-time homebuyers in qualifying for a mortgage by offering assistance with their down payment, closing costs and other benefits.

• Government-backed loans: FHA, USDA and VA loans are three options that can help you qualify for a mortgage with a low down payment or less-than-ideal credit.
• Good Neighbor Next Door: This program is available through the U.S. Department of Housing and Urban Development (HUD). It aims to revitalize specific neighborhoods by providing a 50% discount on the price of certain HUD properties. To qualify, you must be a full-time law enforcement officer, pre-kindergarten through 12th-grade teacher, firefighter or emergency medical technician.
• HomePath Ready Buyer Program: This Fannie Mae program allows eligible first-time homebuyers an opportunity to purchase a foreclosed property with a down payment as low as 3%. Additionally, you may be able to recover up to 3% of your closing costs.
• Local homebuying programs: Your state or local government may offer programs to assist you in purchasing your first home. Search for information about programs in your area through the HUD website.
• Neighborhood Assistance Corporation of America (NACA) Home Purchase Program: NACA is a nonprofit organization that seeks to help the underserved achieve the dream of homeownership. The organization states you can become eligible for a below-rate mortgage by participating in their financial counseling programs. Benefits of the program include no down payment, closing costs, hidden fees or mortgage insurance.

Prepare Your Credit Before Applying for a Mortgage

It pays to be prepared when you’re trying to get a mortgage on a tight budget, especially when it comes to your credit. The credit score you’ll need to buy a home varies by loan type, lender and other factors, but generally speaking, you’ll need a minimum credit score between 500 and 700 for mortgage approval. The minimum credit score needed for conventional loans is at least 620, but it could be 660 or higher in some cases.

Generally, the higher your credit score, the greater the likelihood of loan approval and lower interest rates. Consequently, taking steps to improve your credit score could help you qualify for a mortgage and save money on interest charges. Start by checking your free credit report and credit score with Experian. Remember, you have the right to dispute any errors or fraudulent issues you find on your credit report, which may increase your credit score.