Individuals in their 20s strive to reach many financial milestones. They might be building their first career, paying off student loans, getting out of credit card debt, or starting to save for retirement. For some, buying a home tops the list.
Successfully saving for a house can take years, or even decades, but that doesn’t mean it’s out of reach for those in their 20s. Here’s what young adults can do to prepare for buying a home, whether that goal is two years down the line or 20.
What to keep in mind before buying a home
Long before it’s time to start shopping for a new house, there are some important things to consider.
1. Will you need a mortgage?
According to recent data from the National Association of Realtors, a whopping 86% of homebuyers used a mortgage loan to finance their latest home purchase. Unless a buyer has an incredibly well-funded savings account, experiences a financial windfall, or buys a low-cost home, odds are high that a mortgage loan will be an important part of the process.
Mortgage loans may boost home affordability for many buyers, but they aren’t without some downsides:
- Finance charges. These fees, which represent the interest charged on your principal loan balance, can increase the cost of your home each month and over the life of the loan.
- Borrower qualifications. At a minimum, this will include credit score and income thresholds.
- Lender requirements. This can include meeting home appraisal limits, passing inspection, paying private mortgage insurance (PMI) if necessary, making a required minimum down payment, and more.
If a mortgage loan is needed, it’s wise to begin preparing for the application process as early as possible. This means building a strong credit history and cleaning up any negative reports on the borrower’s credit, as these will lower their overall credit score. It may also mean increasing income to meet lender thresholds and researching down payment requirements in one’s local housing market.
2. How much will you need to save?
According to the National Association of Realtors’ 2020 Home Buyers and Sellers Generational Trends report, 30% of homebuyers in their 20s said the most difficult part of buying a house was saving for the down payment. With conventional mortgage lenders requiring anywhere from 5% to 20% down, that’s hardly surprising.
As of the fourth quarter of 2021, the median home sales price across the U.S. was $408,100. Buyers facing a 20% down payment requirement would need to save nearly $82,000.
Even if a down payment of less than 20% is allowed, this typically means that the buyer will face the added cost of private mortgage insurance (PMI) for the first years of their loan. Premiums for this insurance—which is designed to protect the lender if the borrower defaults on their mortgage—are added to the borrower’s monthly mortgage payment until they reach the midpoint of their loan’s amortization schedule or about 20% equity, whichever comes first.
PMI can cost, on average, anywhere from 0.2% to 2% of the total loan amount annually, which could mean hundreds, if not thousands, of extra dollars.
3. How is your credit?
A buyer’s credit score is another key factor when taking out a mortgage loan. Lower credit scores could mean larger down payment requirements, higher interest rates, or being denied for a loan altogether.
A first step to staying on top of one’s credit can be requesting a free credit report from each of the three credit bureaus (TransUnion, Experian, and Equifax) annually, checking for errors, and monitoring any changes throughout the year. According to FICO data, a recent late payment can result in a credit score drop of up to 180 points, so errors should be reported to the corresponding bureau so they can be investigated and removed.
Buyers can further strengthen their credit by:
- Making monthly payments on time
- Limiting their credit utilization, or the percentage of one’s overall available credit, expressed as a ratio of debt to overall credit limits
- Reducing overall debt
- Holding a healthy mix of different account types—this could include a blend of revolving accounts (like credit cards or lines of credit) and installment accounts (like auto or personal loans)
Why it can pay to buy a house in your 20s
There are often financial benefits for buyers who purchase a home in their 20s.
- Eliminating rent. Rather than paying rent for an apartment, condo, or house each month and having nothing to show for it at the end of a lease, buying a home allows people in their 20s to start building equity.
- Potential for a debt-free retirement. A buyer in their 20s who takes out a standard 30-year mortgage will pay off the loan no later than their 50s, giving them a better chance of entering retirement without the burden of a monthly mortgage payment.
- A source of income. Younger homebuyers have more opportunities to use their home as an income source. They might buy a house with extra bedrooms, then rent those to roommates, subletters, or short- or long-term renters. And if they later decide to move on to a home that’s larger, newer, or in a different area? That first house can generate income as a rental property.
Challenges to buying a home in your 20s
Buying a home in your 20s can be easier said than done. For many potential homebuyers, there are some important challenges to note.
- Student loan debt. Sixty-six percent of recent public college graduates walked the commencement stage with student-loan debt, while 83% of graduates from for-profit colleges did the same. There’s a high likelihood that potential homebuyers in their 20s will still be working to pay off debt. Purchasing a home, and putting thousands of dollars toward a down payment, could delay those efforts.
- Less time to build credit. A homebuyer’s credit history and score are taken into account when applying for a mortgage loan and can impact everything from down payment requirements to the interest rate on the loan. Buyers in their 20s have had less time to establish a positive credit history or get out of debt and may not earn enough to meet lenders’ debt-to-income (DTI) requirements.
- Potential for missed opportunities. Down payments, mortgage costs, property taxes, repairs, renovations…every extra dollar put into real estate is a dollar that can’t be invested elsewhere. For buyers in their 20s, this lost compound interest and time in the market could be detrimental, resulting in missed growth and investment opportunities. Depending on the circumstances—ranging from housing market trends to stock market fluctuations, retirement account returns, and even the rates on high-yield savings accounts—buyers in their 20s could potentially recognize better returns when putting their money into an investment portfolio, rather than purchasing a home.
- Less cushion for unexpected expenses. Few adults will reach their peak income in their 20s, but homeownership can eat away at whatever income they do have. There are unexpected repair bills to consider: everything from a new water heater, which runs an average of $1,200 to install, to a replacement roof, at a national average of more than $14,000. There are market downturns. And rising property taxes can make homeownership more expensive year over year, without much warning—take San Diego, California, which saw a 10.2% rise in property taxes in 2020. Owning (and affording) a home at a younger age may be more difficult to manage than owning a home years later, when one’s income is potentially higher.
The bottom line
Buying a home is no small feat, regardless of one’s age. It often requires many years of diligent saving in order to be successful. If you are in your 20s and want to buy a house—or to start saving to buy one down the line—having a solid financial plan is an important first step.