Recently, a reader asked the above very good question. I am providing a brief summary response and then more details.

SUMMARY RESPONSE {DETAILS BELOW}

The key decision point is NOT how much you put down. The best and safest move is to put 20% or more down if you can afford the TOTAL HOMEOWNERSHIP COST, discussed in detail below. Paying 20% or more as a down payment avoids paying Private Mortgage Insurance (PMI) cost, and saves you 0.5 to 1.5% of the amount borrowed, paid annually.

If you cannot afford to pay a 20% down payment, but can afford the TOTAL HOMEOWNERSHIP COST, PMI it may be a good investment to pay less than 20% down payment and buy the home regardless of the PMI costs, due to potential equity increases and tax deductions of mortgage and real estate tax.

SUMMARY OF KEY FACTORS TO BE ADDRESSED IF INVESTING YOUR HARD EARNED MONEY ON A HOME PURCHASE:

1. Have you determined if you should rent or buy?
2. Have you done your research to ensure you buy a home, in the right LOCATION and SCHOOL SYSTEM with a good probability of minimum breaking even, but preferably appreciating when you sell?
3. Do you have the cash required for a down payment (regardless of the percentage), closing cost, fixed and variable home ownership cost and adequate emergency funds? Recommend you have minimum of six months emergency funds, should you or co-owner lose your jobs or we have a housing recession.
4. Can you afford an increase in interest rate to the maximum allowed, typically six percent, if you selected an adjustable rate mortgage? An adjustable rate mortgages can change each year. And typically increases versus decreases. In 2018, interest rates are slowly increasing which implies adjustable rate mortgages will increase in 2019. {Avoid adjustable rate mortgages if possible.}

DETAILED RESPONSE

RENT VERSUS BUY

The first determination prior to buying a home is should you buy or rent. Due to closing cost on the buying and selling end and other money you put in the property, the general rule to break even is to hold the property 5-7 years. The below link helps you determine if you should buy a home.

https://www.realtor.com/mortgage/tools/rent-or-buy-calculator/

The calculator allows you to plug your down payment, interest rates and other assumptions {see chart below} and will estimate how long you need to own the property to break even and make it a good, maybe a great investment.

Is Buying A Home A Great, Good, Or Risky Investment – Today?

DOWN PAYMENT AND CLOSING COST

• Example – For a $300,000 home, you can expect to pay $6,000 to $10,000 in ADDITION to your down payment to your lender and other third parties, in closing cost.

TYPICAL CLOSING COST

• Appraisal fee: the professional estimate of the home’s value.
• Survey fee: the cost for verifying a home’s definitive property lines.
• Wire transfer fee: the charge to wire funds to purchase the home.
• Underwriting and origination fees: the charge associated with evaluating, verifying and processing the loan application.
• Document prep fee: the cost associated with prepping your loan documents for processing.
• Discount points: paid at the time of the deal to lower the interest rate on your mortgage (these points and cost are optional)
• Credit report fee: the charge for pulling your credit history and scores.
• Title insurance: a must-get policy that protects you in case the seller doesn’t have full deed and authority to the property.
• Recording fees: government fees for entering new property records’

ANNUAL AND MONTHLY FIXED AND VARIABLE COST

After you have purchased the home, you have additional monthly and annual cost, which I will refer to as: “Fixed” and “Variable” cost.

FIXED COST

Fixed costs are cost you MUST pay, regardless of what happens to your income or value of your home. That’s right-if your income stream is cut in half or worse, homeowners’ fixed cost are still due.

HOMEOWNERS FIXED COST

• MORTGAGE MONTHLY PAYMENTS
• HOME OWNERS INSURANCE: The mortgage company requires adequate insurance to pay the mortgage holder in full if the house is severely damaged. Even if you have zero mortgage you need insurance to protect YOUR HARD EARNED MONEY invested in the home.
• PRIVATE MORTGAGE INSURANCE (PMI)- Required if you borrow greater than 80% the value of the home. PMI fees vary from 0.3 to 1.5% of the original loan amount, per year. PMI protects the lender if the borrower ends up in foreclosure.
• HOMEOWNERS ASSOCIATION FEES – Can range from a few hundreds to thousands annually.
• CITY FEES: for water, trash pickup, recycle pickup, fees, etc.
• LAWNCARE- Cutting your grass is NOT optional. City of Chicago charges $500 if your grass exceeds six inches. There is a word that comes to mind when I think of the city of Chicago. Use your imagination. I guarantee my word is worse!
• REAL ESTATE TAXES. The states with the highest real estate taxes include: New Jersey, New Hampshire, Texas, Nebraska, Wisconsin, Illinois, Connecticut, Michigan, Vermont, and Rhode Island. If you have a $300,000 house in some states and counties you owe $9,000 or more annual real estate taxes. There is a technical term for this. Bu I am not allowed to type it! By the way I live in IL.

To buy a home you must be able to pay ALL above direct cost. In some cases your direct cost, excluding mortgage cost, equal or exceed your mortgage cost. But I am not finished; there is Variable Cost, associated with home ownership. Variable costs are those ANNOYING things you do not plan for but you MUST budget for. {And NEVER occurs at a good time}

HOMEOWNERS VARIABLE COST

• REPAIR OR REPLACEMENT COST
• Appliances (stove, dishwasher, refrigerator, washer, dryer, etc) {$200 – $9,000}
• Heating and Air Condition System {$500 – $13,000}
• Roof {$500- $7,000}
• MISCELLANOUS COST: Plumber, Electrician, Handy-Woman (PRAY- you never need a plumber on a weekend, or for you desk jockeys, you will wonder why did you go in debt to get that degree-when you could have been a plumber!)

Bottom line when you look at your savings and consider buying a house, calculate if you can afford the fixed and variable cost. This demonstrates the importance of Emergency Savings! Twenty three percent of Americans have ZERO Emergency Savings- PLEASE DO NOT MAKE THIS MISTAKE -especially if buying a home. Since the financial crisis began in September 2008, about 5.5 million homeowners/families lost their homes to foreclosure across the U.S.

So you have calculated you can afford the down payment, closing cost, direct and variable cost and you are ready to rumble and buy that house! Now lets get back to the original question, do you buy with a down payment of less than 20% or wait and build up your down payment? Here are the pros of both decisions:

PROS OF BUYING NOW – WITH LESS THAN 20% DOWN PAYMENT

• The average home in the U.S. appreciates 3-5 percent annually (dependent on location. Some locations lose value) So by buying now versus waiting you MAY depending on where and when you buy, increase the equity in your home.
• Interest rates while still below the U.S. average, are starting to increase, as the Federal Reserve, increase rates. The higher interest rates climb, the less house you can afford. The sooner you buy, assuming the interest rates continue to climb the cheaper your mortgage payment.
• Effective January 1, 2018, you can deduct the mortgage interest on up to $750,000 in mortgage debt.
• You can deduct real estate taxes, up to $10,000 total, for state and real estate taxes. Although with the revised tax law, you may end up taking the new higher standard deduction of $12,000 for individual and $24,000 for married couples. Note you cannot take both the standard deduction and actual real estate deductions. Pick the higher number.
• Assuming you held cash back, {to cover all Direct and Variable Cost} you can better afford Annual Home Ownership fixed and variable cost.

Pros for WAITING and Putting Down at least 20% (assumes you have to wait and build the money)

• The larger your down payment, the less you have to borrow and the lower your monthly payment.
• You have more equity in your home if you need to quickly sell. Recall in 2008, when adjustable rate mortgages increased and millions of people lost their jobs. Those that did not have adequate equity could not sell their homes and millions of American homes were foreclosed. The larger your down payment the larger your safety net.
• You avoid the Private Mortgage Insurance {Average in U.S. is 0.3 to 1.5% of the mortgage, annually}

CONCLUSION

Millions of Americans have lost their homes to foreclosure across the U.S., when market conditions or income changed. Buying a home is a serious financial commitment. You must ensure now is the right time, by knowing all above identified cost. As for those that tell you now is a good or bad time to buy a home, it is almost impossible to time the market when buying and selling equities and real estate.

Please reply with any questions on today’s blog or future issues you suggest I discuss. If this topic was helpful, please “Like” this blog. I like getting questions, as it helps me identify topics you have an interest in. Keep the questions coming- PLEASE!

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