The appeal of buying before selling is that you know where you’ll be living next and you may avoid having to move to an interim rental, which is frequently the case if you sell your home before buying a new one.
An often insurmountable hurdle to buying your next home before selling the current one is today’s rigorous mortgage qualification requirements. Most homeowners can’t qualify.
However, if you’re an all-cash buyer and don’t need to jump through hoops for a mortgage lender, buying first makes sense, particularly if you have no intention of selling your current home. Some buyers in this position keep the current home as an investment and rent it out.
It is a good time for some homeowners to make a trade-up move, if they can manage it financially and are buying for the long run. Interest rates and home prices are low. Due to economic uncertainty, some buyers are taking a wait-and-see attitude. This can mean less competition in desirable areas where it’s often hard to buy without a lot of competition.
To get approved for a mortgage on the new home, you will need to qualify to carry two mortgage payments as well as pay property taxes and homeowners insurance — called PITI (principal, interest, taxes and insurance) — for both properties. The ratio of all your overall debt to PITI on homes you own, credit cards, car payments, etc., can’t exceed 45 percent of your gross income. This is referred to as your back-end ratio. You must have excellent credit.
Some lenders — for instance, Freddie Mac lenders loan up to $729,750 — will give you credit from income earned on your current home if you rent it to a tenant. You must have at least 30 percent equity in your current home based on an appraisal that will include a rent survey. You’ll need to provide the lender with a copy of a signed lease agreement and a copy of a cleared deposit check or check for the first month’s rent payment. If you meet these criteria, you can use 75 percent of the rental income to qualify for the mortgage on the new home.
HOUSE HUNTING TIP: Homeowners who have the wherewithal to qualify to buy before selling should consider if it’s prudent to own two homes rather than one. Let’s say your goal is to sell your current home and use the proceeds from the sale to pay down the mortgage balance on the new home. You won’t know how much you’ll net from that sale until it closes. If prices dip between the time you buy the new home and sell the current one, you could end up netting less than anticipated. Be conservative in assessing the market value of your current home.
Rents have declined and vacancies increased in recent years. The rental market appears to be stabilizing in some areas. However, if you decide to rent rather than sell your current home, you could be faced with unexpected vacancies if tenants lose their jobs. If the rental market is soft, you may have to lower the rent to attract a tenant. The income stream could drop below your carrying costs.
Many buyers who can qualify to buy before selling aren’t able to make a large down payment on the new home without tapping the equity in their current home. Some buyers will use an equity line of credit to access more cash for a down payment. If you’re trying to buy in a high-demand, low-inventory market where multiple offers are common, you may not be competitive with a 10 or 20 percent cash down payment.
THE CLOSING: Cash is king. Most sellers will go with a buyer with who is putting more than 30 percent down even if it means accepting a slightly lower price.