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How First Time Home Buyer Loans Work

Pros and Cons of First Time Home Buyer Loans

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First time home buyer loans make home ownership more accessible. However, you don't necessarily need to use a special loan for your first home purchase. First time home buyer programs come with restrictions and strings attached that might be dealbreakers. While they are a perfect fit for some, they are the wrong choice for others.

What is a First Time Home Buyer Loan?

Your first home purchase is a big deal. It takes time, energy, and money. To help with the money hurdle, some people use first time home buyer loans. These programs vary depending on where you live and what's available to you, but the general idea is this: programs are designed to give financial assistance to qualified borrowers. This can come in any in the following ways:

  • Allowance for a very low (or no) down payment
  • Subsidized interest costs (you get a break on all or part of the interest)
  • Grants to help with down payment, closing costs, and improvements
  • Loan forgiveness (for some portion of the total purchase price)
  • Limits on fees that lenders are allowed to charge for your transaction
  • Deferred payments

Note that the programs available to you might offer any or none of the benefits listed above – it depends on your financial circumstances and where you live, so you'll have to research what's available in your area.

Where to Find Loan Programs

Finding good programs requires some legwork. A good place to start is the HUD Web site on home buying programs (click on your state, then click "Assistance programs" under "Buying a Home"). You can also just search the web, being sure to include your state or city of residence. If you like, you can also include any characteristics about you (with or without your location); for example, if you're a veteran, teacher, or disabled, you might find additional programs.

Who Qualifies?

As you might imagine, first time home buyer programs are targeted towards individuals who have never owned a home. But some organizations will offer assistance to people who have owned before, as long as they have not owned within the last three years. Again, check to see what’s available to you.

You may have to meet certain financial restrictions as well. For the most part, first time home buyer programs reserve benefits for people with low and moderate incomes. If you earn too much, you won’t qualify for the program. Likewise, having substantial assets can also reduce your chances.

Loan Restrictions

Most programs put a dollar limit on the property you’re buying. You probably can’t use a first time home buyer loan to buy the more expensive properties in your area. Instead, you’ll be limited to less expensive properties that are probably more affordable for people who meet the income restrictions mentioned above. Again, the idea is to benefit people who have the most need.

You also have to live in the home as your primary residence. If you're going to rent the place out, you'll need to use a different type of loan.

Finally, the home you buy most likely has to meet some physical requirements. It must be in good condition and free from any safety hazards (such as lead-based paint, for example). If you have a home in mind that you can't buy because it's in disrepair, you can try using a FHA 203k rehabilitation loan instead.

First Time Home Buyer Loan Pitfalls

For some first time home buyers, these programs are perfect. They open the door to home ownership where a family would otherwise have been unable to buy a home. Communities also benefit from first time home buyer loans – homeowners take care of their property, get involved, and contribute to the economy. Nevertheless, first time home buyer loans can be the wrong choice in some cases.

With a specialized loan, you face some challenges:

  • Price restrictions might not allow you to buy the home you want
  • You might lose some of the benefits of the program if you sell your home too soon
  • You may have to pay recapture tax for some of the benefits you received
  • You may be limited to a short list of loan types (only 30 year fixed rate mortgages for example)
  • If your home increases in value, you may have to share those gains with the program

Given these restrictions, you may be better off avoiding subsidized first time home buyer loans. Patrick Schwerdtfeger, a California mortgage broker, notes that you’ll probably come out ahead using a plain-vanilla mortgage if you’ve got decent credit. With a FICO credit score above 720, you probably won’t see an advantage with a subsidized first time home buyer loan. Once you get below 680, the subsidized programs will start to look better. These days, you can still get traditional mortgages or FHA loans with very little down.

The best thing to do is to explore all of your options. Take a look at what your traditional mortgage lender is offering, and compare it to subsidized first time home buyer loans. Once you see how the numbers compare, consider the cost of flexibility.

In addition to loan programs, be sure to learn about the First-Time Homebuyer Tax Credit to maximize your savings.

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