How to Pay for a Home
- More than 2.2 million homeowners are more than 60 days late on their mortgage payments
- One in six homeowners owes more on a home than it's worth.
When I was starting to look for my first house in 2004, I was worried that I wouldn't be able to get a loan, or really that I wouldn't be able to get a loan big enough to buy the house I wanted. I was making pretty good money, I'm not rich but I had put away enough for a decent down payment, I didn't have any debt (other a credit card that I payed off every month) and I had a virtually perfect credit rating, but I had never been through the process of getting a mortgage and I expected it to be difficult. I wanted to live close to town, in a part of town near where I was renting at the time. I had become addicted to the short commute to work and all the conveniences, but it is more expensive than living in the 'burbs. Not California or Manhatten expensive, but my house would probably have cost less than half of what it did if it was in the area of Houston where I grew up.
I put together a spreadsheet to figure out how much money I could spend on a mortgage payment, using the last five years of data in my Microsoft Money database to estimate irregular income and expenses, things like bonuses, vacations, gifts, charitable contributions, and car maintenance. I averaged everything into a monthly expense and then used what was left over to figure out how big a mortgage I could afford based on my current income (I am a salaried engineer, so my income doesn't vary much). When I filled out the loan application, the bank approved an amount almost twice as much as the maximum amount I had calculated. I was amazed, I couldn't imagine how anyone could cut back that much to be able to handle such a big a mortgage payment.
When the opportunity came to buy my house, I had to act fast, the seller wanted to close within a month because she was using the money to buy another house. If I hadn't already been prepared with all the financial calculations, I couldn't have made an informed decision about the financing. I figured out how much cash I could scrape together, and it was right at 20% after closing costs if I spent every cent I had, and I wasn't sure exactly how much the closing costs would be. I was dealing with a fairly conservative mortgage company (Wells Fargo) and they required 20% down or private mortgage insurance (PMI). I had been reading up on PMI and I knew that paying for insurance for the bank was dumb in my case. I had a short term cash flow problem, PMI wouldn't go away very quickly, and it was absolutely zero benefit to me. I also knew that if I spent all of the cash I had to get a 20% down payment, something unexpected could very easily come up and I'd be in trouble. The bank proposed a piggyback loan to make up the difference, so I borrowed 5% of the mortgage amount to apply to the down payment at a slightly higher interest rate (I think 2 percentage points higher than my mortgage rate, which was under 6%). It had a seven-year term but I paid it off in less than a year, since I basically already had the money. Once I paid off the second mortgage, I started applying that amount to the principal on the first mortgage. I have been aggressively paying down principal, although I quit at the beginning of this year to build up a bigger emergency fund after recalculating what 6 months of bills would be without my brother as a roommate. The value of my home continues to go up, but at a slower rate, but even if it had dropped I wouldn't owe more than it is worth.
One of the mistakes I did make in my estimates was the real estate taxes. I looked online and at the tax bill the previous owner had paid, around $1,000/yr, and I used that number in my estimate. My real estate agent warned me that the property taxes were fairly high, but I didn't listen, and I was surprised at the closing when I realized that appraised tax value of the home would double and the next year's taxes would be more than $7,200. This would have been a big problem, even with the mortgage company escrowing the amount, if I had used all the cash I had to make my down payment or if I had tried to buy more house than I could comfortably afford. A couple I know had to refinance their loan after only one year because the previous appraised tax value on their new home was just the lot value, and their taxes were 10 times what they had paid their first year.
I believe most of the blame for the "financial crisis" is not on banks but on borrowers. People spending more than they can afford to, either because of overly optimistic estimates of their costs, failure to plan for the unexpected, or just plain short-sightedness. I read about a woman with two kids who's initial mortgage payment was only $100/month less than her take-home pay. That's not ignorance, that's stupidity. And now her house is being foreclosed upon, and yes, the banks are partly to blame, that's a loan that never should be made, but the person who signed their name to the contract is the one responsible. No one forced her to borrow more than she could afford, and she shouldn't have allowed herself to be talked into such an obvious disaster just waiting to happen. When I look at the small amount of basic planning I did preparing to buy my first house, I know anyone else could have done basically the same thing, and then been better prepared to make financial decisions. I know I could have borrowed more than twice as much as I did, and had a house twice as big as the one I bought, but it would have been way too risky, and I didn't want to gamble my financial future. And now a lot of the people that did make that gamble are seeing the results.
This is the second part of a series, see part one How to Pay for a New Vehicle here.
- One in six homeowners owes more on a home than it's worth.
When I was starting to look for my first house in 2004, I was worried that I wouldn't be able to get a loan, or really that I wouldn't be able to get a loan big enough to buy the house I wanted. I was making pretty good money, I'm not rich but I had put away enough for a decent down payment, I didn't have any debt (other a credit card that I payed off every month) and I had a virtually perfect credit rating, but I had never been through the process of getting a mortgage and I expected it to be difficult. I wanted to live close to town, in a part of town near where I was renting at the time. I had become addicted to the short commute to work and all the conveniences, but it is more expensive than living in the 'burbs. Not California or Manhatten expensive, but my house would probably have cost less than half of what it did if it was in the area of Houston where I grew up.
I put together a spreadsheet to figure out how much money I could spend on a mortgage payment, using the last five years of data in my Microsoft Money database to estimate irregular income and expenses, things like bonuses, vacations, gifts, charitable contributions, and car maintenance. I averaged everything into a monthly expense and then used what was left over to figure out how big a mortgage I could afford based on my current income (I am a salaried engineer, so my income doesn't vary much). When I filled out the loan application, the bank approved an amount almost twice as much as the maximum amount I had calculated. I was amazed, I couldn't imagine how anyone could cut back that much to be able to handle such a big a mortgage payment.
When the opportunity came to buy my house, I had to act fast, the seller wanted to close within a month because she was using the money to buy another house. If I hadn't already been prepared with all the financial calculations, I couldn't have made an informed decision about the financing. I figured out how much cash I could scrape together, and it was right at 20% after closing costs if I spent every cent I had, and I wasn't sure exactly how much the closing costs would be. I was dealing with a fairly conservative mortgage company (Wells Fargo) and they required 20% down or private mortgage insurance (PMI). I had been reading up on PMI and I knew that paying for insurance for the bank was dumb in my case. I had a short term cash flow problem, PMI wouldn't go away very quickly, and it was absolutely zero benefit to me. I also knew that if I spent all of the cash I had to get a 20% down payment, something unexpected could very easily come up and I'd be in trouble. The bank proposed a piggyback loan to make up the difference, so I borrowed 5% of the mortgage amount to apply to the down payment at a slightly higher interest rate (I think 2 percentage points higher than my mortgage rate, which was under 6%). It had a seven-year term but I paid it off in less than a year, since I basically already had the money. Once I paid off the second mortgage, I started applying that amount to the principal on the first mortgage. I have been aggressively paying down principal, although I quit at the beginning of this year to build up a bigger emergency fund after recalculating what 6 months of bills would be without my brother as a roommate. The value of my home continues to go up, but at a slower rate, but even if it had dropped I wouldn't owe more than it is worth.
One of the mistakes I did make in my estimates was the real estate taxes. I looked online and at the tax bill the previous owner had paid, around $1,000/yr, and I used that number in my estimate. My real estate agent warned me that the property taxes were fairly high, but I didn't listen, and I was surprised at the closing when I realized that appraised tax value of the home would double and the next year's taxes would be more than $7,200. This would have been a big problem, even with the mortgage company escrowing the amount, if I had used all the cash I had to make my down payment or if I had tried to buy more house than I could comfortably afford. A couple I know had to refinance their loan after only one year because the previous appraised tax value on their new home was just the lot value, and their taxes were 10 times what they had paid their first year.
I believe most of the blame for the "financial crisis" is not on banks but on borrowers. People spending more than they can afford to, either because of overly optimistic estimates of their costs, failure to plan for the unexpected, or just plain short-sightedness. I read about a woman with two kids who's initial mortgage payment was only $100/month less than her take-home pay. That's not ignorance, that's stupidity. And now her house is being foreclosed upon, and yes, the banks are partly to blame, that's a loan that never should be made, but the person who signed their name to the contract is the one responsible. No one forced her to borrow more than she could afford, and she shouldn't have allowed herself to be talked into such an obvious disaster just waiting to happen. When I look at the small amount of basic planning I did preparing to buy my first house, I know anyone else could have done basically the same thing, and then been better prepared to make financial decisions. I know I could have borrowed more than twice as much as I did, and had a house twice as big as the one I bought, but it would have been way too risky, and I didn't want to gamble my financial future. And now a lot of the people that did make that gamble are seeing the results.
This is the second part of a series, see part one How to Pay for a New Vehicle here.
posted by drewc4 at
1:45 PM
0 Comments:
Post a Comment
<< Home