Thinking about buying a house rather than renting? Here are some things to consider.
Tips on saving and budgeting for a house
Buying your first home can be one step toward fulfilling the oft-pursued “American Dream.” But it’s important to pursue your vision of homeownership—and everything that comes with it—with clear eyes.
To buy a house is to buy the vision of a possible lifestyle—a starting point for a new way of living. In addition to the house itself, not only do you buy the experience of the surrounding neighborhood, the schools your children may attend, the accommodations that your local businesses offer, and the hospitality of your immediate community, but you also buy the ongoing responsibilities and expenditures that come with it.
No pressure, right?
Should I buy or should I continue renting? How does buying a house work? What if I need to move within a few years? Millions of homeowners have faced these questions. Here are a few things to keep in mind as you consider this step.
"The biggest benefit to home ownership is potentially building equity over time," says Robert Siuty, Senior Financial Consultant at TD Ameritrade. With renting, there “is no potential for residual equity earned over time," he adds.
"When deciding between renting and buying, you want to make sure that you account for all of the expenses that go along with homeownership," Siuty says. He recommends considering such factors such as property taxes, homeowners’ insurance premiums, potential association fees, variable utility costs, landscaping costs, and general maintenance expenses. “You want to make sure that you don’t stretch yourself too thin," he says.
A decision to buy versus rent can also mean trading financial flexibility for financial commitment, and exchanging labor mobility for stability. In other words, buying a house might be for those who desire the prospect of settling down to build roots in a given location. If you plan on moving within one to three years, or if you foresee the need to relocate for your career, then perhaps getting locked down into homeownership might not be for you.
And although it’s possible to relocate in a few years by simply selling your home, this might prove to be a hassle. The general costs and the risks of home price fluctuations might end up working against you. Not only might your real estate transaction fees (broker, lawyer, loan origination, to name a few) eat up a portion of the profits you may have accumulated from growth in your property’s value, but you may also find yourself selling at a time when the housing market may be undergoing a relative depreciation.
Plus, the real estate market isn’t like the stock market, with a ready pool of dealers, market makers, and other participants providing a liquid and orderly marketplace. With real estate, it may take a while to link a buyer and seller together.
Some homeowners may opt to rent out their homes. But there are also caveats to this scenario. Sure, renting out your home may seem like an alternative income stream, but taking on the responsibility of landlord can be equivalent to taking on another job. It means managing your tenants, ensuring their compatibility with your surrounding neighbors, and (if you own a condo) their compliance with homeowner association bylaws.
It starts with location. There are plenty of Internet tools and sites to help you find houses for sale in an area of your choice. But in addition to this, you might want to research the area more closely for data on broader home trends, economic factors that may influence home prices in your area, qualities of schools, and other factors that may affect your day-to-day living. In this situation, working with a real estate professional who specializes in your area might be a good idea.
Your down payment and loan type can make a big difference. Saving for a house can be critical; the amount you contribute to the initial down payment for a home can make a very big difference to your financial well-being.
Let’s consider a scenario with a low down payment. There are Federal Housing Administration (FHA), Fannie Mae, and Freddie Mac programs that can help you keep your down payment as low as 3%. First off, some properties may not be available to buyers who are utilizing any of these programs for loan assistance. In other words, some properties might be available only to bidders who are planning to finance their purchase with a conventional loan.
If you are going the route of a conventional home loan, note that your lender may require you to pay private mortgage insurance, or PMI, for down payments that are less than 20% of the property’s value.
PMI protects the lender in case you stop making payments on your loan. It also increases the cost of your monthly payments. However, once you have accumulated at least 20% equity in your home, or if your home’s value exceeds 78% of the original purchase price, the PMI can be canceled.
Mortgage financing options—fixed or adjustable rates. Might you want to pay a fixed interest rate over the life of the loan, or pay an adjustable rate that starts lower but increases over a number of years? “Doing a quick online search you can find a number of mortgage calculators comparing the differences between the two," says Siuty. He says the choice between the two may depend on how long you plan on living in your new home.
If you plan on keeping your home for five to seven years, then an adjustable rate might be a good option. But if you plan on living in your home much longer, then perhaps a fixed rate might be a better solution. Either way, this is an important decision to consider very carefully.
Total cost of ownership (TCO). There’s also plenty more to the cost of owning a home than just principal and interest. Your closing costs may include appraisal fees, loan origination fees, title insurance, credit-report charges, and taxes. You may have other costs on top of those, including property taxes, insurance, maintenance, utilities, and more. If you purchase a condo, you’re likely to pay annual or monthly HOA fees.
Maintenance and repairs can also be an ongoing issue. According to Holden Lewis, a senior mortgage analyst for Bankrate.com, you might want to consider saving up to 1% of a home’s value each year to help pay for maintenance and repairs. Most of the time you may end up paying less than that amount, but other times you may end up paying more. Recall Siuty’s words: “Don’t stretch yourself too thin."
Buying a house can be an important and possibly rewarding step toward settling down, achieving stability, and putting down roots in a desired location. But this dream comes with a great deal of ongoing responsibilities and costs. If you’re ready to accept everything that homeownership entails, then perhaps you might be ready to take this giant step.
Karl Montevirgen is not a representative of TD Ameritrade, Inc. The material, views, and opinions expressed in this article are solely those of the author and may not be reflective of those held by TD Ameritrade, Inc.
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