Money Saving Tips for Buying a Home
Why homeownership should be your first family financial goal
There are a lot of competing pressures on families to build a happy and healthy financial future, from cars to college and from retirement to a residence. Picking a priority can be frustrating. But there is a clear best among all of these financial goals: homeownership.
Habit for Humanity, The organization that works with poor families to help them get into a home, has gathered available research to understand the benefits of home ownership.
Children’s Academics: Owning a home is good for your children. Math and reading scores for children living in owned homes versus those living in rented homes were 9 and 7 percent higher, respectively for those living in owned homes. Children of homeowners are 25 percent more likely to graduate from high school. Children of homeowners are more than twice as likely to finish college.
Behavioral Challenges: Renters’ children also face greater behavioral challenges. Most dramatically, renters’ teenagers are 40% more likely to give birth out of wedlock than children of homeowners.
Children’s Future Income: Homeowners’ children earn an average of one dollar per hour more than renters’ children. Homeowners’ children are almost half as likely to end up on welfare as adults as renters’ children.
Family Stability: While reports show that homeowners earn about twice as much as renters, it isn’t clear that owning a home causes that so much as results from that. It is conceivable that the stability created by homeownership fosters career development. Homeowners’ children are half as likely to grow up in single-parent households or be on welfare.
Grandchildren: Homeowners’ children are almost 60 percent more likely to own homes themselves, providing an intergenerational benefit.
Forced Savings: The financial benefits of homeownership are dramatic. The mortgage serves as a sort of forced savings plan; the home equity is difficult to spend, allowing families to accumulate meaningful net worth. While saving and investing in other assets could yield similar results for renters, most do not accumulate a similar net worth.
Retirement Savings: By owning a home that you pay off before retirement, you provide yourselves with a linchpin asset for retirement. A free place to live will allow you to stretch your other retirement assets further, making your retirement more safe and secure.
Happiness: Surveys show that homeowners are happier in their homes than renters.
Community Roots: Homeowners stay in their homes an average of four times longer than renters. Perhaps that’s why homeowners are more likely to vote, to know who their congressman is or to be able to identify the head of the local school board.
There are a variety of programs available to help low to moderate income families acquire a home. The Federal Housing Authority offers low down payment loans. The Veterans Administration offers loans with no down payment to qualified veterans. Many states and municipalities offer assistance for acquiring a home. If you make owning a home a priority, it can become a reality.
7 Tips For Buying Your First Home
One of the most important decisions a couple will make is the choice of a first home. Choosing well can ensure good schools for the kids, stability in family and other relationships and opportunity. Choosing poorly can lead to financial disaster. Financing the home purchase properly is almost as important as buying the right home. Here are some tips to help you make the right choices:
1. Choose a home in a neighborhood where people generally earn what you earn or a little bit less. By doing so, you’ll find your neighbors drive cars like yours, struggle with the same budget questions you do, vacation where you do, etc. If you move to a neighborhood where everyone has a bit more money, you and your kids are likely to feel poorer not richer, constantly struggling to buy a car as nice as the neighbor’s car or to vacation like they do. Save yourself the drama.
2. Choose a home with convenient access to public transportation. You may not think you want to use it now, but if gas prices spike or your income changes, using public transportation may become the solution to an otherwise big budget problem.
3. Choose a home where you can walk to some of your most routine destinations, school, grocery store, and other conveniences. Having the option to walk for those errands could save you money, keep you fit and help protect the environment.
4. Choose a home that will be adequate for your family for a long time, perhaps forever. The secret weapon in finding a home that will last a long time is often an unfinished basement. That open space makes great storage today and in the future—when resources permit—you can turn it into beautiful finished space for more kids and/or more luxury.
5. Don’t borrow more than you think you can afford just because the bank says you can afford more. You know your spending habits and your needs. Don’t fudge with the bank so you can borrow more than they would otherwise allow; the bank’s underwriting guidelines are generous enough. Banks are in the business of making loans; they want you to qualify. Fit your home to the available financing.
6. Make the largest down payment you can. Making a down payment of less than 20% of the purchase price will increase the cost of borrowing the balance, so save and prepare well so that you can make the largest down payment possible. If you can comfortably put more than 20% down, do it. The smaller your mortgage, the better.
7. With mortgage rates at all-time lows in 2012, consider a shorter term mortgage. It wasn’t too long ago that folks thought that 8% was a reasonable mortgage rate. The payment on a 2012 mortgage at 3.75% for 15 years is the same as the 8% mortgage spread over 30. By putting yourself in a position to be mortgage free in fifteen years instead of 30, you create possibilities for your family that may far outweigh an extra 600 square feet of living space.
The happiness you will experience in your home will have much less to do with the house than the people in it. If you buy a home that stretches you financially, you’ll add stress and anxiety to your home. If you buy a home you can easily afford and have virtually no risk of losing, you’ll invite peace, tranquility and stability into your home.
Four Money Saving Tips to Help You Buy a Home You Can Really Afford
It is challenging to remember when there has been a better time to buy a home. In most places in the United States, with Manhattan and a few other places as notable exceptions, home prices are still well below their peak values in 2007 after five years and mortgage rates are incredibly low—many mortgage professionals would have told you mortgage rates couldn’t get as low as they are in the fall of 2012.
So, given that you’d like to buy a home, the following ideas will help you get the most for your money without using most of your money!
1. Ask your mortgage loan officer how much you can afford to borrow then commit to borrowing even less for your home purchase. It is tempting to buy a home that will stretch your finances to the absolute limit for some very good reasons, but that approach comes with some huge risks as the last five years have shown.
2. Find a home in a neighborhood where the average income is like yours or lower. If you stretch your way into a neighborhood where everyone earns more than you do, you’ll feel painful pressure to keep up with the Joneses in ways that are very expensive. If your budget only allows for summer vacation to the nearest national park and your neighbors are all vacationing in Hawaii or Europe, you’ll feel poor even if you’re not!
3. Stay in your home for a long time. If you can stay in your home for fifteen years or more, the mortgage payment will truly seem to get smaller. Even modest levels of inflation over long periods of time will tend to push the value of your home up, along with your income, making the mortgage look small. After fifteen years, the remaining balance on your home may be comparable to a typical new car loan, meaning you could pay it off in just four or five years if you really wanted to do so. The longer you stay, the cheaper it gets. Stay for thirty years and suddenly it will be free!
4. Maximize the down payment. When you buy your home, it is generally a good idea to put as much down as possible. It may require some sacrifice to get the down payment up to 20% of the purchase price, but that will not only reduce the monthly payment because you’ll borrow less, but also because you’ll avoid mortgage insurance (which adds no value to you or your home apart from allowing you to make a small down payment). If you have retirement savings in a 401k or IRA that can be used for the down payment, that may make sense if you are not yet 40 (so you have plenty of time to save for retirement) and you check with your tax advisor, you may be wise to use that to get your 20% down payment. Don’t take money from retirement savings to create a larger down payment than 20%—keep the money in your retirement account.
7 Money Saving Tips to Help You Qualify for Your First Home!
Buying your first home is exciting, wonderful and scary. Your home will be a place where you raise your family, build life-long friendships and it will likely become a central part of your financial stability. Waiting for a mortgage underwriter to approve your loan can take several anxiety filled weeks.
Here are some tips to help you succeed in getting your loan approved quickly.
1. Save for the down payment. You cannot borrow the down payment for most mortgage loans. For some, you cannot even accept a gift. Parents often offer to lend their adult children the money for a down payment. That can be problematic. If your parents are really willing to help, consider moving back in with them for a year while you save the rent money for a down payment. As a general rule of thumb, you’ll need about 7% of the purchase price of the home to qualify for a typical mortgage, including some closing costs and post-closing reserves. Get specifics from your loan officer.
2. Work on your credit. Before you even start thinking about buying a home, you should be working to establish a good credit record. You don’t have to borrow a lot of money to prove you have good credit. You’ve likely been paying rent and utility bills on time. That can be documented. (If you haven’t been paying on time start today!) Pay everyone for everything on time. If you can’t afford it, don’t borrow the money to buy it.
3. Sell your car. If you have a car with a loan, consider selling it to reduce your outstanding debt and, if possible, buy one for cash. If your car is nearly paid off, that is, by making the regular payments it will be paid off in less than a year from the time you will submit your loan application, you don’t need to do anything special. The underwriter should ignore the loan. Just commit now to keep driving the car long after it is paid off. (My wife and I sold our cars and bought an old clunker that we drove for 18 months in order to qualify for our mortgage.)
4. Pay off consumer debt. Reduce all of the debt you have as much as possible. It may be difficult to do this while you’re saving for a down payment, but the debt will work powerfully against you both before and after you buy your home. Get rid of it.
5. Consolidate and extend remaining debt. This step is not a substitute for the prior steps. Get rid of as much debt as possible. Once you’ve reached your limit and your debt is manageable, look for an opportunity to combine and extend any remaining debt to minimize the payment. You should complete this at least 90 days before you start looking for a home. Credit applications near the time of your mortgage application are a big red flag.
6. Before you find a home, get “pre-qualified.” Different lenders have different names for and offer varying assistance toward helping you figure out how much money you can afford to borrow, but regardless of the form it takes, this free consultation should give you a good gauge of what you can afford. Be sure that your lender reviews your credit report at this stage so that you both know before you start writing offers if there are problems there that could prevent you from getting approved for a mortgage.
7. Provide, don’t hide information. It is virtually impossible to hide financial information from the underwriters. Your entire life history is just a mouse click away. If there has been a financial problem in the last seven years, disclose it early and provide a complete explanation for what happened and why it will never repeat again. Underwriters—not the loan officer with whom you’ll work directly—will make the loan decision and they will ask for all kinds of information. Even the loan officer may not understand why the information is being requested. Provide it quickly if you want your loan approved.
By following these basic steps you’ll have prepared yourself well to buy a home where you and your family can build a happy life together.
Five Tips to Help You Save For a Down Payment
One of the greatest financial struggles a family ever faces is making the down payment on a first home. A down payment of 5% is really just the beginning. In addition, there are closing costs that can easily total 2% of the purchase price. Add to that, the underwriter will want to be certain you have adequate cash reserves to make a couple of payments to protect you against the interruptions in your cash flow.
If you are hoping to buy a $150,000 home, you’ll need $7,500 for a down payment, another $3,000 or so for closing costs and another $2,000 or so in cash reserves or a total of about $12,500.
The following are some tips to help you save for your down payment or reduce the requirements.
1. FHA Loans: FHA Loans require only a 3.5% down payment. FHA loans are insured by the Federal Housing Authority. In some cases, interest rates may be fractionally higher, but for first time home buyers struggling with a down payment, any slight difference may be overwhelmed by the smaller down payment. Not all lenders offer FHA loans. If you are struggling with the down payment, be sure to work with a lender that can offer an FHA loan.
2. Seller Pays Closing Costs: As you work with your real estate agent, talk to her about having the seller pay your closing costs—even if you have to add them to the purchase price. In a “seller’s market” where sellers get their way on everything, this may not be an option. In a “buyer’s market” where buyers get their way on everything, you can probably offer less than asking price and still get the seller to cover the closing costs.
3. Use your IRA or 401k: The IRS will allow you to withdraw up to $10,000 from your IRA for a qualified first time home purchase. Both you and your spouse can do so. You may be better off, however, leaving your cash in the IRA. The mortgage loan underwriter will likely count the cash in your IRA toward the cash reserves. For that purpose, you’ll pay no tax or penalty. If you withdraw money from your IRA for your down payment you will be required to pay the tax on the withdrawal—but no penalty. Talk to your employer about borrowing from your 401k. If it is allowed, you’ll pay no tax and no penalty and you’re basically borrowing from yourself.
4. Sell your car. If you have two cars and can get by with one, sell the other one. If you can get some cash for the down payment and pay off the car loan at the same time, that can help you maximize your ability to qualify for the mortgage.
5. Mom and Dad. It is common for parents to help their adult children with getting into a first home. There are two basic ways in which parents can help. Obviously, parents may make a gift of cash for the down payment. Alternatively, they can invite you to live in the basement for a year while you forgo rent and accumulate a down payment. Even if you didn’t get this sort of help from your parents, you may consider helping your children. A successful financial launch into adulthood by purchasing a home can provide tremendous stability for a family over the years. By combining all of these strategies for reducing a down payment requirement and saving for it, the challenge may seem less difficult. Rather than needing $12,500, you may be able to get by with just $7,500 or so. Selling a car, saving on rent, borrowing from the 401k may quickly combine to provide you with the down payment for your first home.
What Are The Closing Costs I Always Hear About With Mortgages?
When you buy a home or refinance your mortgage, you should expect to pay a plethora of petty fees. Even if you can get the seller to pay them for you, it is a good idea to understand them.
Some fees are associated with the mortgage and some fees are associated with buying or selling a home.
Mortgage Related Fees
Appraisal: Appraisal fees vary by market, but the cost is typically around $300 for a single family home.
Credit report: Costs vary, but expect to pay up to $50.
Lender’s title insurance: This is insurance that protects the lender in case there is a problem with the title to your property. In most cases this will be less than 1% of the mortgage or $1,000 per $100,000 of mortgage loan.
Origination Fee: This fee may be negotiable. Typically, it is around 1%.
Underwriting Fee: This fee, not always charged; it could be up to $750 and may be negotiable.
Document preparation fee: This fee could be up to $150 and could be negotiable.
Tax service fee: This is a fee paid to verify the status of property taxes. The fee is usually about $60.
Flood inspection certificate: This is the fee to confirm whether or not flood insurance is required because the property is in a flood zone; expect to pay about $15.
In addition to the closing costs above (the list is not comprehensive—there could be other costs), you may also have to pay some interest at closing for the rest of the month, in which case your first mortgage payment won’t be due until the first of the month after next. You may also have to pay a portion of the property taxes if the lender is requiring you to pay them with your mortgage. Finally, if the mortgage company is collecting taxes, they’ll be collecting property insurance as well and may want you to bring a portion of next year’s premium to closing—in addition to evidence that you’ve paid the current year.
Home Purchase Related Fees
Home purchase related fees in addition to the fees shown above (if you buy a home for cash, the fees above are avoided, otherwise you’ll pay the mortgage related fees above plus the home purchase fees):
Closing fee: This fee is typically paid to the title company to handle the closing; expect to pay about $100 to $150. (Both buyer and seller will pay the same amount.)
Wire fees: This is for the escrow company to wire money to the seller; expect to pay $10 to $25.
Federal Express fees: This is to cover the cost of sending documents between the parties; expect $15 to $35.
Seller Related Costs
If you are selling a home, these are the fees you can expect to pay on that side of the transaction.
Real estate broker commission: The commission to the agent who sold your home typically costs six or seven percent of the purchase price. You may be able to negotiate the commission.
Closing fee: This fee is typically paid to the title company to handle the closing. Expect to pay about $100 to $150.
Buyer’s title insurance: This policy protects the buyer from defects in the title that you
didn’t know about. Expect to pay less than 1% of the sale price of the home ($1000 per
$100,000 of sales price).
Federal Express fees: This covers the cost of sending the documents between the parties; expect to pay $15 to $35.
By agreement, the seller is generally allowed to pay the buyer’s closing costs. Often, the seller will demand a higher price as a result, effectively forcing the buyer to borrow the money as part of the mortgage.
As you can see, the total closing costs for a real estate transaction are large, with the buyer’s costs easily topping two percent of the purchase price (including the mortgage related costs). The seller’s costs are even larger, with the commission included. Selling one home and buying a new one can easily cost a family 10% of the average value of the homes they are buying and selling. Don’t ever fool yourself into thinking that you somehow make up that money. It’s really gone.
Six Insider Tips for Refinancing Your Mortgage
As the former owner of a mortgage company, I know that refinancing your mortgage can be a lot of work and it can be complicated. Here are six tips to help you get the most out of your mortgage refinance:
1) Focus on the interest rate, not the payment. If you’ve been paying on your mortgage long enough, you can drop the payment materially just by starting over with a fresh 30 year mortgage, but that won’t accomplish much.
2) Remember that the principal payments you make with your mortgage payment are just like savings. The more the merrier. You’re just moving money from your checking account to your “home equity” account.
3) Home equity is hard to spend—and that’s a good thing! It is relatively difficult to access the equity in your home these days; it was a lot easier before 2008. Thank heaven for small favors. Be glad that the market is imposing some discipline on us, making us build up equity in our homes. Home equity tends to translate into more stable home environments, neighborhoods, and communities.
4) Choose the shortest maturity you can afford. Mortgage rates drop as the maturity or length of the mortgage gets shorter. In other words, a 15 year mortgage typically has a lower interest rate than a 30 year mortgage. Payments rise as maturity shortens because you pay more principal every month (see #2).
5) Don’t spend the money you’ll save until after you have the loan. The loan officer who helps you with your loan application will not be the person who decides whether or not your loan is approved. Almost certainly, the loan officer is more optimistic about your loan approval than the underwriter (who will decide) for this simple reason: the loan officer is paid on commission and he has no shot at a commission for a loan he doesn’t submit, but he has a shot at a commission on even a long shot mortgage application.
6) Do everything the loan officer asks you to do. Applying for a mortgage can be frustrating. The loan officer will sometimes ask you to do things that seem to make less sense than hopping up and down on one foot while rubbing your tummy. If you want the mortgage, do it anyway. Feel free to ask why you are being asked to jump up and down on one foot while you rub your tummy, but ask while you’re hopping and rubbing. Generally, such requests are really coming from the underwriter who may not have any direct communication with the loan officer so he may not even know why. Refusing to provide requested information will likely result in not getting your loan approved.
My New Job Is 40 Miles From My Home; Should I Move Closer To Work?
Anyone who has moved a family recently can tell you they hope never to do it again. Memories fade and many do it over and over again. If you land a new job that is say 40 miles away, it may be tempting to move closer to work. Here are some considerations to help you decide:
1. Rent or own? If you are renting your current residence, the cost of moving is much smaller, and the opportunity to save enough to pay for the move is much more likely. If you own your home, it could take decades to save enough in transportation costs to pay for the move.
2. Car or train? If you will have to drive to your new job every day, the costs of the commute will add up more quickly than if you can take the bus or train most or all of the way.
3. Graveyard or 9 to 5? If you will be working normal hours, leaving the new job around five and can still be home for dinner every evening, the pain for your family may be small. On the other hand, if you work shift work that makes time with the family scarce already, you may be willing to make a financial sacrifice by moving to have more time with your family.
4. Fast or slow? Your commute being 40 miles long now could take anywhere from about 40 minutes to an hour and forty minutes, depending on the speed of the commute. The longer the time required for the commute, the more it will wear on you and your family.
5. Telecommuting, yes or no? Will your new employer allow you to telecommute some of the time? The less often you need to make the new, longer trip to the office the more sense it makes to stay where you are.
6. Tax deductible, yes or no? If your new job isn’t 50 miles farther from home than your old job, the move isn’t tax deductible in the United States. If your move is tax deductible, it makes much more sense than otherwise.
7. What’s best for the family? It is important in most circumstances to ask yourself what is best for the family, all things considered. That includes thinking about nonfinancial considerations. For some people, buying a new home is pure pleasure and they are always looking for an excuse. Don’t ignore the financial considerations in making your final judgment, but don’t overweight them either.
Finally, consider some simple math. Selling a home and buying a new one could easily cost 10% of the value of the homes. With a typical home costing about $250,000 in many parts of the country, a move costs $25,000. That cost is not recaptured in any way ever. It’s gone for good. The cost to drive a car you’d own anyway is quite roughly $0.25 per mile. You’d have to drive 100,000 on your commute to make up for the cost of the move. If your commute is 60 miles longer per day, 300 miles longer per week, 6,000 miles longer per year, you’d need to work at the new job for about 15 years to save enough on gas and car maintenance to pay for the move.
As you can see, it is difficult to justify selling a home because of a long commute simply based on financial considerations. You may find that quality family time is so rare that it is justified in your case.
We Just Bought A New Home; The Mortgage Is Killing Us. Help!
Congratulations on your home purchase and welcome to the world of home ownership. Almost every family who has purchased a home remembers those early years of homeownership that we thought we could never endure. Here are some tips to help get you through the lean years when folks sometimes say they are “house poor.”
1. Start in the garage. If you have a beautiful car in the garage for which you are making big payments, you aren’t house poor, you’re “car poor.” Sell the big, beautiful car and get rid of the payment. Buy a clunker for cash and drive that for a year or two.
2. Check your W-4. When you bought a home, you may have put yourself in a position to exceed the standard deduction on your income tax return because the mortgage interest is deductible. (If you have a modest home and you financed at very low interest rates, you may not.) Talk to your tax advisor to determine if your mortgage interest would allow you to file a new W-4 with your employer, changing the number of “allowances” you claim. Increasing the number of allowances will decrease the taxes withheld from your paycheck and also reduce the refund you’ll get after you file your return.
3. Sell the big boy toys. You know the old saying that the only difference between men and boys is the price of their toys holds some truth. If you have four-wheelers, RVs, expensive hunting and fishing gear, you may have to sell some of this. If you still have loans on any of this equipment or have credit card balances that can be reduced by selling it, this is a good step. It would be much better to sell an RV that gets used three weekends every year and one week every summer than to lose your home, right?
4. Cut back. In the first years of home ownership it is customary to find yourself cutting back on eating out, entertainment, vacations, hobbies, etc. Discretionary spending becomes a thing of the past for a time.
5. Ask for a raise. Your financial circumstances don’t really interest your employer. Your boss isn’t going to give you a raise because you bought a home you are struggling to afford. That said, if you haven’t had a raise in a while—and that’s a lot of people these days—and your company is thriving again, it isn’t crazy to make a thoughtful request for salary increase.
6. Get another job. Just after buying a home is a scary time to change jobs—changing jobs is risky. If you’re convinced you’re under paid, you can look for a higher paying job. If not, you may look for moonlighting opportunities that you can hold down just until your income at your primary job catches up to your expenses.
7. Sell the house. This should be your last resort. After the housing debacle of 2008-2010, mortgage lenders learned their lessons. They had allowed people all across America to buy homes they couldn’t afford on the hope that the home would appreciate and bail everyone out. If you just recently bought your home, the mortgage lender should have been convinced that you actually can afford to make the payments. If something has happened to your income or the lender somehow goofed and you really can’t afford the home. Sell it. Your down payment may be lost forever, but if you lose the house to foreclosure, not only is your down payment lost but your credit is, too. If you can’t make it, sell it before they take it.
Home ownership is a wonderful way to build a stable and happy home life for your family, giving you the opportunity to put down roots in a community, build lasting friendships and help your children succeed in school. Making home ownership a priority in your financial planning is wise. Almost always there is a way to make ends meet during those first few years of home ownership. Keep your head up. Lots of people have done it before you and you can, too.
How Do I Know Whether Or Not To Refinance My Mortgage?
Mortgage rates have recently been so low that many in the mortgage industry never anticipated they could get so low, leaving many wondering whether it is time to refinance the mortgage (again).
There are a variety of considerations and few simple answers, but I’ll try to clear away as much confusion as possible to help you determine if you should refinance.
First, you should assess whether or not your home is worth enough to support the mortgage you want. In order to qualify for the lowest cost mortgage, your home should be worth about 1.25 times the mortgage. If you have a $200,000 mortgage, your home must be worth $250,000 to get the lowest cost mortgage in terms of interest rates and fees, including mortgage insurance. Generally, you can’t refinance your mortgage at all unless your home is worth at least 1.11 times the mortgage amount. (In some circumstances you can negotiate with your lender to modify your existing mortgage if the home’s value is lower than the mortgage balance and you have had trouble making the payments.)
In order to get the best mortgage rates, you’ll need to have very good credit. Good credit starts with never making any payments late and includes not having too much debt relative to your income. Recent foreclosures, judgments and bankruptcies make refinancing almost impossible at low market rates. You’ll also need stable income; if you’ve had recent gaps in employment, you may need to wait to refinance. The best way to find out of you have good enough credit is to apply.
The difference between the interest rate you’re paying now and the interest rate you’re being offered is also important. Some lenders will do a mortgage refinance at no charge to you, but they charge a higher-than-market interest rate. This could be a good idea if you plan to move in the near future as you’ll have invested nothing (but your time) in the refinance. If you choose a zero cost refinance deal, any interest savings you get will begin immediately. If you are confident that you’ll be staying in your home for a long time, it may be wiser to pay some fees (typically about 2% of the loan balance) to refinance as you should be able to find a lower interest rate than you’d get with a no-fee loan.
If you choose to pay the typical 2% fee to get the best rate, you’ll want to make that up as quickly as possible. If your new rate will be two percentage points lower than your old mortgage, that is your old mortgage is at 6% and the new one will be at 4% or less, then you can make up the cost of the refinance in about a year. If the difference is just one percentage point, it will take about two years. You’ll have to decide what makes sense in your situation, but I wouldn’t refinance to save less than one percentage point.
Keep in mind that there are some things you’ll have to pay at closing that aren’t, strictly speaking, costs of the refinance. Be sure to plan for things like funding the escrow account for property taxes and insurance and for prorated interest at closing. These are all costs associated with having a home and/or a mortgage and not associated with the transaction, but you may need to pay them sooner than you would otherwise.
Should We Really Buy A Home Or Just Rent?
After the real estate collapse of 2008-2010, it would be easy to conclude that owning a home is a risk not worth taking. That may be the wrong lesson to take away from the Great Recession.
A home is not a great investment. It won’t make you rich. If you hate yard work as much as I, you’ll curse your home on the weekend. But, over the long haul, owning a home provides some key advantages over renting that are not entirely financial in nature.
There is nothing that would force renters to move—they could just keep renting most places. Similarly, homeowners could move around frequently. Statistics show, however, that approximately one third of renters move every year compared with about six percent of homeowners, suggesting that renters move about five or six times as often as homeowners.
Staying in one place helps to create stability in your family. It encourages you to put down roots, to build relationships in your community with the schools, the soccer teams, churches and even the merchants in your neighborhood. Those relationships may prove to be invaluable in a crisis—a sort of insurance policy against the unforeseen and uninsurable risks.
Over time, rent will tend to rise, approximately with inflation. Your rent is likely to eat away 25 percent of your income for as long as you rent. If you buy a home, your property value will likely rise approximately with inflation—not a great return, but better than nothing. At the same time, your mortgage payment will remain constant.
If you compare two hypothetical families, the Rents a lots who rent and the Owns a homes who bought a home, after a decade you’d see a fairly striking difference in their financial situation. Assume that The Rents a lots started out paying $1,000 per month in rent. After ten years, their rent would likely rise to about $1345 per month (assuming a three percent inflation rate).
At the same time, the Ownsahomes bought a home with a $1,000 principal and interest mortgage payment, assuming a four percent interest rate. With a five percent down payment, the Ownsahomes would have paid about $220,000 for a home with a mortgage of just under $210,000. After a decade, the Ownsahomes’ home would be worth about $296,000 and their mortgage balance would be down to $165,000 or so, meaning that their initial equity of just over $10,000 would have expanded to $131,000.
The Ownsahomes aren’t rich, but they do have a meaningful amount of equity in their home now. The Rentsalots not only don’t have that equity, they’re now paying more each month than the Ownsahomes to rent their home.
Of course, the Ownsahomes had to come up with a down payment. That couldn’t have been easy. If they had bought their home in 2007, they might well find that even after a decade they won’t have seen much if any appreciation because of the big fall in values that followed 2007. If something, say a lost job, had forced the Ownsahomes to move during the Great Recession they might well have regretted the purchase as they’d likely have lost their equity—and perhaps much more.
Home ownership should not be seen as a way to get rich. That argument would encourage you to do unwise things, like buying a bigger home than you need or can afford. Buying a home that you can afford can bring peace and stability over time. Don’t ask your home to make you rich. Ask your home for a safe place to raise a family and you shouldn’t be disappointed.
How To Party Like It’s 2042 Long Before Then
If you bought a home this year with a standard 30 year mortgage, you’ll make your last payment in 2042. If you’d like to celebrate the day you own your home free and clear of a mortgage before the 30 years are up, here are some tips to help:
1) Pay just 10% more each month on your mortgage and you can shave five years off the life of the loan, depending on your interest rate; 20% will shave nine years! Even 5%, just $50 on a $1,000 mortgage payment will cut three years off the life of a loan. (The higher your interest rate the more impact a little more money has.)
2) Remember that paying down the mortgage has much the same effect as putting money in the bank, except that you’ll effectively earn a higher interest rate. Of course, the equity you build in your home is harder to spend, but that’s a good thing!
3) If you get paid every two weeks, you’ll be getting 26 paychecks and only 12 scheduled mortgage payments. If you make one extra mortgage payment during the year, the effect is similar to number 1, above. Combined with number one, you could shave more than a decade off your mortgage.
4) If you made a down payment of less than 20%, you are almost certainly paying what is called Mortgage Insurance. As soon as two years have passed, if you increased your home equity to more than 20%, you can refinance your mortgage to eliminate the mortgage insurance. Of course, if rates are higher, there is no advantage, but if rates are also lower, you can create even more cash flow that can be applied to principal each month.
5) If your mortgage is more than two years old now, investigate a refinance today. Interest rates are low in the fall of 2012 and you may be able to afford a fifteen or twenty year mortgage right now without paying much more each month. Don’t fall to the temptation to start with a fresh thirty-year mortgage without committing to pay at least a little extra to shorten the term to at least what it is today.
6) If you get a bonus or an inheritance, even if it isn’t enough to pay off the mortgage, go ahead and make a big extra payment. You may want to alert your mortgage processor to apply it all to principal immediately and not to future payments over time. By paying down a lump of your mortgage today, more of your regular monthly payment will go to principal each month thereafter and your mortgage will be paid off years earlier.
Paying off your mortgage really is a reason to celebrate. A generation ago, it wasn’t unusual for a family to literally have a celebration to burn the mortgage documents once they were completely paid off. Today, many families carry mortgages well into retirement and effectively find themselves slaves to their lifestyle. When you own your home free and clear you own your lifestyle—it doesn’t own you!