Can you buy a car before buying a house? It’s best to avoid buying a car right before you apply for a mortgage or close on your house. But life happens, and sometimes those purchases coincide.
We’ll explain why buying a car before buying a house is tricky and what to do if you can’t avoid it.
Can you buy a car before buying a house? Technically, yes — but you probably shouldn’t.
When you apply for a mortgage, your loan officer will look at a number of factors to determine whether you qualify. These include your income, credit score* and credit history, and your debt-to-income ratio** (DTI).
Taking out a car loan less than six months before you apply for a mortgage could make it more difficult to buy a home for two reasons.
#1: Your credit score will drop temporarily.
Any time you apply for new credit or take out a new loan, your credit scores will decrease at least temporarily. The decreases can be offset by other factors, such as having a strong lengthy history of on-time payments on your existing credit accounts and/or a low debt utilization ratio on your credit card accounts. (Debt utilization = how much credit you’ve used vs. how much is available to use). But depending on your current scores, the drop in scores could potentially put you out of qualifying range for a mortgage.
Another factor to consider: Your credit scores determine which loan programs you’re eligible for and also affect the interest rate you are eligible to receive. Generally speaking, the higher your credit score the more loan options you’ll have. You may also qualify for more competitive interest rates, although rates depend on a number of factors including credit scores, down payment, loan amount, debt-to-income ratio (DTI) and current market rates.
#2: Your debt-to-income ratio could increase.
What exactly is your debt-to-income ratio? It’s the total of your recurring monthly payments plus the proposed monthly mortgage payment which must include taxes, insurance and HOA dues (if applicable), divided by your monthly gross income.
Example – Let’s say your recurring monthly debt payments = $1,450. The proposed mortgage payment is $2,341, which includes taxes, insurance and HOA dues. Your total gross monthly qualifying income = $10,000. This would mean your DTI = 37.91%.
If you take out a new car loan, your DTI may increase due to the additional monthly payment. Every mortgage loan program has specific guidelines about how high a borrower’s DTI can be. Even if you feel confident you can afford the car loan and a new mortgage payment, a DTI that’s too high may disqualify you from getting a home loan.
#3: New debts may be a red flag to mortgage lenders.
Your mortgage lender will look at your credit history when you apply for a mortgage. If they see that you’ve recently taken on new debt or that you have applied for a number of new accounts recently, they may be concerned that you won’t be able to manage all of your debt obligations. Again, you may feel confident you can afford them all, but your lender has to follow loan program guidelines and use their best judgment as to whether you’ll be a creditworthy borrower.
#4: Buying a new car could cut into your down payment.
If you’re worried about taking out a car loan before buying a house, you might consider paying cash for the new vehicle which could help you avoid potential credit issues. But if you dip too far into your savings, you will have less money available for your down payment and closing costs.
Not only does making a smaller down payment mean you will pay more on the house over time due to interest, but it can also affect whether you’re approved for a mortgage – and for how much.
As with your credit score, your lender will look at your assets to ensure that you have enough money to cover the down payment and closing costs. There are a number of low down payment and zero down payment loan programs out there. But you may still need money for closing costs, even if you take out a zero down payment loan.
Using your savings for a new car might not be a big pinch if you qualify for down payment assistance*** or closing cost assistance. But if you need to cover all the costs on your own, you want to think carefully before making any big purchases.
How much you have saved for your down payment impacts the size of your loan, because you need enough cash to cover the loan program’s requirements. For instance, if you want to buy a $300,000 home with a 3% down payment on a Conventional loan, you’ll need $9,000 for a down payment.
You’ll also need enough for the closing costs, which typically range from 2-5% of your loan amount. Let’s assume the closing costs are also 3%, which would mean you need a total of $18,000 for closing. In this case, your lender will need proof that you will have $18,000 in eligible assets available to pay at closing.
What to do if you must buy a car before buying a house
Buying a car before buying a house isn’t ideal but it may be unavoidable. If your car dies on you and it’s the only way you can get to work, then buying a car before you buy a house is a necessity. After all, you need income from that job to qualify for a mortgage.
Here are some ways to minimalize the credit impact of needing to purchase a vehicle before buying a home:
- Buy the car sooner rather than later. The credit score dips you’ll see from a car loan credit check should be somewhat temporary. If you apply for a car loan at least six months to a year in advance, your credit score may have a chance to recover before buying a house. Making timely payments on the car loan for several months could actually strengthen your scores. Plus, your loan balance will decrease, which will improve your credit utilization ratio.
- Create a separate car savings fund. If you don’t have enough savings on hand to pay cash for a vehicle, saving up to make a large loan down payment will lower the amount you have to finance. A smaller auto loan with a lower monthly payment could be better for your credit score and DTI. If you expect to need a new car in the coming months, start setting aside money for that purchase now. You don’t want to be surprised with an urgent expense right in the middle of the process for your home purchase.
- Get a less expensive car. If you simply need a commuter car to get you from Point A to Point B, consider putting off a brand new or luxury car purchase and look at used cars. Buying an affordable car with cash will keep you from having a new loan on your credit report. Plus, it’s one less bill to worry about while you adjust to repaying a mortgage. Even if you still need a car loan, a lower amount means a lower payment, which could help you maintain a qualifying DTI when you apply for a mortgage.
- Negotiate your car’s trade-in value. If you own the car you’re trading in for a new one, shop around to find the best trade-in deal. Since the value you’re able to negotiate for your current car can be subtracted from the sales price of your next car, getting a good trade-in offer could help you lock in lower out-of-pocket costs.
Before taking these steps, however, ask whether there are any creative solutions you can use temporarily to hold off on buying a car.
Could you work from home for a month while you wait to close on your house? Is carpooling with co-workers an option? Would your employer reimburse you if you used ridesharing apps? Is public transportation an option?
Having your own car will almost certainly be more convenient than any of these scenarios but compromising for a little while may be the key to moving ahead with your home purchase.
Can you buy a car while actively in the mortgage process for a house?
Let’s say you’ve already been approved for a mortgage and you’re just waiting for your closing date. Is it safe to buy a car before the closing? Typically, the answer is no.
Your mortgage approval is based on verification of the amount of debt and credit scores in place at the time you applied for your home loan. Before closing, your lender may be required to reverify your finances to ensure there have been no major changes, such as a loss of income or an increase in your debt-to-income ratio due to newly added debts, such as a new auto loan.
Once you’ve received full mortgage approval, taking out a new car loan can jeopardize your home purchase. If your DTI increases, your lender might have to restructure the details of your financing which can impact the loan amount and interest rate you were originally approved for. In worst case scenarios, it may even cause the lender to retract your loan approval if you no longer meet qualification guideline requirements.
The bottom line on buying a car before buying a house
If you must buy a car before buying a house, talk to your mortgage loan officer. They can advise you on how a new car loan or cash purchase might impact your home-buying situation.
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*Fairway is not a registered or licensed credit repair organization.
**Debt-to-income (DTI) ratio is monthly debt/expenses divided by gross monthly income. ***Eligibility subject to program stipulations, qualifying factors, applicable income and debt-to-income (DTI) restrictions, and property limits.
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