Key Takeaways
- Bringing in additional income is one of the best ways to save quickly for a down payment.
- Paying down debt not only frees up money every month going forward, but it can also increase your credit score, helping you to get a lower interest rate.
- With the Fed increasing interest rates, savings products are paying higher yields, helping your savings grow faster.
If you are looking to buy a house, the good news is that real estate is no longer the hot seller’s market it was a year ago. It’s still not a buyer’s market again, but there isn’t as strong of a demand for housing right now. This means price increases have slowed, and fewer buyers make it more likely that your offer will be accepted.
But what if you’re just at the beginning stage of the process and building up your down payment? How do you quickly and effectively build your savings? Here are some ways to help you save money for a house and where to put the money, so you earn as much interest as possible.
Take on a side hustle
One of the first things you can do to help save for a house is to increase your income. The extra money can be put towards your down payment, allowing you to fund it faster.
If you find you love your side hustle, you can also keep it long term and use the cash to pay extra on your mortgage – after you purchase – so you will be mortgage free sooner. Or you could put this money into a savings account and use it as a down payment if you decide to upgrade in the future.
At the end of the day, you need to find a side gig you enjoy. Otherwise, you will burn out, quit, and end up not saving any extra money.
Pay down debt
Paying down debt might not sound like a way to afford a house, but it is. When you pay off your debt, you free up the money you previously used toward loans and credit cards. Now you have more money that can be used to pay your mortgage or save for a house.
Another benefit of getting rid of your debt is an improved credit score. The higher your credit score, the lower the interest rate you may qualify for. Over the life of the loan, this could translate to tens of thousands of dollars.
For example, if you take out a 30-year, fixed-rate loan at 7% for $200,000, you will pay $279,021 in total interest. Get the same loan but with an interest rate of 6.5%, and you pay $255,085. That is a difference of about $24,000 in price for just a 0.50% difference in rate.
Additionally, lenders look at how much debt you have in relation to your income (known as your debt-to-income ratio) to judge whether to lend you a mortgage. Keeping that ratio as low as possible ups your chances of getting approved.
Even if you can’t pay off all your debt, make it a point to pay off a portion of it so your credit score can rise and you can realize some savings.
Take advantage of retirement accounts
Finally, don’t overlook your retirement accounts. Most experts believe the money you put into retirement accounts should not be used for other purposes. However, when it comes to buying a home, this asset will appreciate over time. Therefore, there is some justification for taking out a loan against your 401k or making a one-time withdrawal from your IRA as a first-time home buyer to purchase a house.
If you have a 401k plan, you can take out a loan from this account. The loan won’t be reported to the credit bureaus since it is your money, and the interest you pay on the loan is interest you are paying back to yourself since you are taking the loan against your 401k.
While this sounds like a great idea, understand that when you do the math, it usually is a bad idea as you end up with less money in your 401k than if you didn’t take out the loan. This is because you lose out on the compounding of your money had you left it invested. Even though you are paying yourself back, the time it takes to repay the loan will cause you to end up with a smaller balance in the long run. Plus, there are other factors at play If you leave your job or lose your job before paying back the loan, the entire outstanding amount could be due immediately.
Another option is a traditional IRA or Roth IRA. With a traditional IRA, you can take out $10,000 as a first time home buyer and not have to pay an early withdrawal penalty. However, you will have to pay federal and state taxes.
A Roth IRA allows you to take $10,000 of the account’s earnings to buy a house. There are no taxes since the money you put into a Roth has already been taxed. Also, you are free to withdraw any amount of contributions in a Roth at any time.
So if your balance is $100,000, $70,000 of which is contributions, you could take out $80,000 for a down payment. This would be $70,000 of your contributions and $10,000 of earnings.
Windfalls
Another popular way to save for a house is to use windfalls of money. This includes tax refunds, inheritances, and gifts. Using these large amounts of money helps you put down the most money possible and offers a boost of motivation.
If your goal is to save $60,000 for a down payment, and you have saved $1,500 so far, it can be discouraging seeing how far away you are from your goal. But if you get a $3,000 tax refund that raises your total to $4,500 saved, this can motivate you to keep pushing ahead.
Cut expenses
It is important you take time to review how you are spending money and if there are any areas you can cut back. Doing this can free up money you can use for your down payment.
The best way to review your expenses is to review your monthly statements. You want to look at around three months worth of expenses in order to see meaningful trends.
Keep an eye out for things you buy that don’t positively impact your life. For example, maybe you see you are making a lot of impulse buys on Amazon. What can you do to stop these purchases? Spend less time on the site/app? Place items in your cart but don’t check out for a minimum of 24 hours. Think through these types of purchases and the things you can do to reduce your spending.
Make sure you also look at your utility bills to see if there are simple things you can do to reduce these expenses. If your cable bill is high, you can call and negotiate to get a lower price or cancel and join the throngs of cord cutters.
Can you shop around for electricity in your state? Have you compared auto insurance premiums? These could be significant savings if you take the time and put in a little effort.
Where to save your money to boost savings
Until recently, another issue people had when saving for a home was the poor interest rates on savings accounts. But with the Federal Reserve raising interest rates, the rates you earn on your savings have increased as well. This means you will earn more interest on your savings, and your balance will grow even faster thanks to compound interest. Here are a few ways to earn a decent amount of interest while still keeping your money safe.
High-yield savings account
The best place for most people is a high-yield savings account. You can find countless options online for these types of accounts, many of which now pay over 3%. The only caution is not to simply pick the bank with the highest rate. Depending on when you look, the bank with the highest rate might offer this to attract as many deposits as possible. Then as rates continue to climb, they dig their feet in and don’t raise rates again.
The good news is this is less common than it was in the past. Still, when you find a rate you like, research the bank first before you apply. Opening an account online usually takes ten minutes, and you can connect your current bank and make transfers immediately.
Certificates of Deposit
As with savings accounts, bank CDs have not been paying competitive interest rates for years. But now, these rates are higher thanks to the Fed raising rates. The best plan of attack when putting your savings into CDs is to build a CD ladder. This is when you divide your savings into equal parts and invest them in various maturity dates.
For example, if you have $5,000, you can put $1,000 into one-year, 18-month, two-year, three-year, and five-year CDs. When the one-year CD matures, you open a new five-year CD. As each CD matures, you open a new five-year CD. Doing this allows you to earn the highest amount of interest possible.
The only downside of putting your money into CDs is that it is locked in until it matures. If you need the money before maturity, you will usually pay three months’ worth of interest as a penalty.
I Bonds
If you don’t need your down payment money for a year or longer, consider investing in I Bonds. These are bonds issued by the government that have two rates, a fixed rate based on the Consumer Price Index and a variable rate based on inflation. Currently, I Bonds are paying 6.89%. Understand the rate changes every six months, so this is not the rate you will earn all the time.
But the interest rate currently is much higher than with savings accounts, so many people are purchasing I Bonds. If you decide to go this route, you must create an account and buy the bonds through TreasuryDirect.gov. Also, you cannot sell the bonds for one year, and if you sell between years two and five, you forfeit the last three months’ worth of interest. After five years, there is no penalty.
Short-term Treasuries
A final option is to invest in short-term Treasuries. The interest rates on these have jumped along with the other savings products listed. With this investment, you can choose various terms, including four-week maturities, eight-week, 13-week, 26-week, one-year, and more. As of this writing, yields on these are around 4%.
The easiest way to invest is through TreasuryDirect. However, you can also invest in the secondary market through a broker, but you may incur fees for doing so.
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