1 C HAPTER 7 Selecting and Financing Housing Or Home, Sweet, Home! A third of Americans now spend at least 30 percent of their income on housing − the.

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CHAPTER 7Selecting and Financing Housing

Or

Home, Sweet, Home!

A third of Americans now spend at least 30 percent of their income on housing − the federal definition of an “unaffordable”

housing burden (The Washington Post)

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Evaluating Housing Alternatives Your lifestyle and your choice of housing

How you spend your time and money, your lifestyle, affects your housing choice

Personal preferences are modified by financial factors

Traditional financial guidelines suggest you spend no more than 25-30% of take-home pay on housing, or no more than 2 1/2 times your annual income for a home

“Ha! Ha! Ha! Ha! Ha! Ha!” The authors obviously don’t live in San Diego!!

3 Rent or Own?Evaluating Housing Alternatives

Advantages of renting Mobility Fewer maintenance responsibilities Lower initial costs

Disadvantages of renting Few financial benefits – “Not always true!” No growth of equity Restricted lifestyle Legal concerns of a lease Costs including a security deposit, utilities &

renter’s insuranceDon’t forget renter’s insurance!

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Housing Rental Activities The search

Select an area and rental cost for your needs Compare costs of units Talk to current and past residents

Before signing a lease Make sure the lease dates, costs and facilities are

clearly represented Talk to a lawyer about unclear lease aspects (?) Note in writing, signed by the landlord, the condition

of the rental unit Either person who signs lease can be held

responsible for the full rent

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Legal Details of a Lease Description and address of property Name and address of the owner/landlord Name of tenant Effective date and length of the lease Amount of security deposit Amount and due date of rent Location where rent is due Date and amount for late rent payments List of included utilities, appliances Restrictions on certain activities The right to sublet the unit Conditions under which landlord may enter the

rental unit

The lease exists to

protect the Landlord!

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Living in rental property If you can demonstrate that you are a good

tenant, sometimes the landlord will keep your rent increases to a minimum A good tenant is worth the lower rent to a landlord

At the end of the lease Clean and leave unit in same condition you got it Provide landlord with new address for deposit Require than any deductions from your deposit be

documented

Housing Rental Activities(continued)

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Advantages of Owning Pride of ownership

The American Dream (Dreams can turn into nightmares)

Reduced income taxes Deduct mortgage interest Deduct property taxes & state income taxes

Build equity by paying down the loan and by price appreciation Protection against inflation

Builds your credit rating Lifestyle flexibility – express your individuality

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Disadvantages of Owning Financial uncertainty

Get down payment and financing Home values could drop (“Yeah, right?” “Yeah, right!”)

Limited mobility Can take time to sell A home is not a liquid investment

Zoning and CCR’s Higher living costs

Maintenance, repairs & improvements Real estate taxes

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“But my house is the best investment I have ever made!”

“Of course, it is pretty much the only investment that I have ever made,

Except for that penny stock my brother-in-law, the ex-stockbroker, conned me into buying… But that is worthless now

And those gold coins I bought back when the first Gulf War started back in ’91 What did I do with those things, anyway?”

Bottom Line: A House is a Home First, an Investment Second

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“But what about San Diego?!”

Prices in San Diego have gone down in the past

They seem to be still going down now How far they will drop is uncertain

Consider: It is not as though San Diego is all of a sudden becoming an undesirable place to live

But if you plan on staying here, by all means, buy whatever you can afford San Ysidro and National City are two of the best

values in the region, by the way Imperial Beach is also a great beach value

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Speaking of inSane Diego…

Do you own your own home?

A. Yes

B. No

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Speaking of inSane Diego…

Of those who do not own, do you plan on purchasing a home in San Diego?

A. Yes, I am determined to do it

B. Maybe, but not for many years

C. No, I will continue to rent here in San Diego

D. No, I am moving to a cheaper area

13 Sign seen over a desk in a San Diego office, circa 1993

“Please, God, let there be another real estate boom and I promise I won’t piss it all away

this time!”

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The Main Elements of Buying a Home

“Location, Location, Location” Down payment

Parent, Grandparents – Equity Sharing? Mortgage application

Get pre-approved at a credit union or broker Points – Each point is 1% of the loan amount Closing costs

Close your eyes and sign PITI (principal, interest, taxes, insurance)

Escrow account Maintenance costs

15 Assess Types of Housing Than Can be Purchased Single-family dwelling (SFR) Multi-unit dwelling

Duplex Townhouse

Condominium You own your unit in a building of units It is not a type of structure but a form of ownership

Cooperative housing Members own shares in and rent a unit in a

building with multiple units East Coast

16 Assess Types of Housing Than Can be Purchased Manufactured homes

Fully or partially assembled in a factory and then moved to the housing site

Prefabricated type has components built in the factory and assembled at the site

Lower cost than site built homes Mobile homes

A type of manufactured home often less than 1,000 square feet

Offer same features as a conventional house Safety is debated and they usually depreciate if

you don’t own the land underneath the home

(continued)

17 Assess Types of Housing Than Can be Purchased Tips for Mobile and Manufactured homes

Avoid buying a “complete package” You will usually end up overpaying

Find the site first – buy the land if you can afford to Get a warranty on the installation of the home as

well as the manufacturing of the home The installation often is the most troublesome aspect If dealer will not provide a warranty, walk away

Arrange your own financing This is where the dealers make the most money.

They will want you to finance at a very high rate relative to the mortgage market. Credit union!

(continued)

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If building a home, consider… Does the contractor have needed experience? Does contractor have a good working relationship

with architect, suppliers, electricians, plumbers, carpenters and others?

What assurance do you have about quality? What are payment arrangements? What delays will be considered legitimate? Is the contractor licensed and insured?

Assess Types of Housing Than Can be Purchased (continued)

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Home Buying Process Step 1: Determine Homeownership Needs Determine how much you can afford

Consider both price and quality Get pre-qualified

Price and down payment Available funds for a down payment Your income and living expenses Your ability to make the payments

Size and quality As you move to a second and third home you can

include more of the features you want Look at the condition of the home

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Home Buying Process Step 2: Finding and Evaluating a Property to Purchase

Select a location Be aware of zoning laws (Can you park your RV?) Assess the school system if you have children

Using a real estate agent They present your offer, negotiate the price,

assist you in obtaining financing, represent you at the closing, and… Stab you in the back if you are not careful! Get a good referral

Obtain an appraisal (This will happen anyway)

Conduct a home inspection

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Home Buying Process Step 3: Pricing the Property Determining the home value

Check the neighborhood & recent transactions Negotiating the purchase price

Buyer agents (Normally, the agent works for the seller! Always keep this

in mind.) Is it a Seller’s or a Buyer’s market? “Earnest money”

Contingency clauses Buyer can obtain financing Sale often contingent on the sale of the buyer’s

current home

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Determine the amount of the down payment Mortgage insurance (PMI) if less than 20%

Apply and qualify for the mortgage If you have not already pre-qualified Can be pre-qualified based on income, assets,

debts, credit history, mortgage rate, and length of loan

Evaluating points (prepaid interest) “Buy-down” a lower interest rate

Good idea if you intend on living in the house for a long time

Home Buying Process Step 4: Obtaining Financing

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Private Mortgage Insurance (PMI)

Private Mortgage Insurance protects the lender from financial loss due to default on the loan Notice that it protects the lender but the borrower pays

for it – What a scam, uh… deal! Usually required if the homebuyer puts down

less than 20% on the home When the equity builds to 20%, it is supposed

to end automatically But do not wait for the lender to get around to

stopping it – Get rid of it as soon as you can! Some borrowers avoided it by taking 2 loans

80% fixed – 15% HELOC – 5% down

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Conventional Fixed rate, fixed payment, amortized 5%, 10% or 20% down 15, 20 or 30 years of fixed payments

Adjustable rate mortgages Interest rate varies but usually has a rate cap Interest rate tied to prime rate or other industry rate Sometimes come with a “negative amortization”

provision – Beware the Option ARM! Government guaranteed financing programs

Veterans Administration Federal Housing Authority

Types of Mortgages

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Types of Mortgages Graduated payments

Payments start lower and go up For persons whose income is expected to increase Typical characteristic of Option ARM mortgages

Interest-only loans (a.k.a. IO, pronounced “eye-owe”)

Balloon Fixed monthly payments plus one large payment,

usually after 3, 5 or 7 years Advertised as…

“30 due in 7” or “30/7” “30 due in 5” or “30/5”

(continued)

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A second mortgage Home is collateral and interest is normally tax

deductible (Schedule A)

Home equity loan is an example Reverse mortgages

Provides elderly with tax-free income based on the home equity – Careful! Get a lawyer!

Shared appreciation (a.k.a. equity sharing) Borrower agrees to share appreciated value of

the home with the lender – Careful! Refinance – To getting a better interest rate

(continued)Types of Mortgages

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It used to be almost impossible to compare “apples-to-apples” when shopping for a loan A lower interest rate was usually a “come on” in

exchange for being soaked with “garbage fees” Loan applicants often were not made aware of

these extra fees until the day of the closing! It is much easier and safer now

New rules forbid “bait ’n’ switch” maneuvers that used to be commonplace

Financing & Mortgage Fees

In 2003, there was an effort to create a standardized method for pricing home loans. The industry shot it down. But after the recent debacle in the home

loan industry, the home loan reform advocates finally got their way. http://www.latimes.com/business/la-fi-perfin29-2009nov29,0,6612155.column

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The two are really the same question “How much equity should I have in my house?”

Real estate agent sez, “No, you should buy a new house every 4 or 5 years.” So she can make another commission…

Financial representative sez, “No, you should invest the extra in a mutual fund.” So he can make another commission…

I sez, “If you intend on staying in your house for more than a few years, YES!” “Make Love, Not Loan$!”

Should I have a large down payment?Should I pay off my mortgage early?

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When interest rates trend lower, many homeowners consider refinancing their mortgage and getter a lower interest rate

Payments usually go down as a result But you can incur points and closing costs all over

again as when you purchased the house You essentially sell your house back to yourself

The rule of thumb is: “If you can get your rate down by 2%, then go ahead and refinance”

BUT, if you can find a no-cost or low-cost refinance, as long as your rate goes down, even if not by much, it makes sense to refinance

Should I refinance?

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Title insurance and search fee Escrow fee Attorney’s and appraiser’s fees Property survey Recording fees; transfer taxes Credit report Termite inspection Lender’s origination fee Tax and insurance reserve Pre-paid interest Real estate commission

Home Buying Process Step 5: Closing the Purchase Transaction

Closing Costs

Insist on a “walk-through”

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Title insurance guarantees… That the seller owns the property That the seller and buyer are who they say they

are That there are no liens or other encumbrances on

the property If your home was purchased or refinanced

within the past few years, you can ask for (and should get) a discount on the title insurance policy

Title Insurance

It definitely pays to shop around for title insurance. Do not assume the company your real estate agent suggests will give you the best price.

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Selling Your Home Preparing your home – white picket fence Determining the selling price

Appraiser – $350 Realtor – Free (???) Check the neighborhood for current prices

For sale by owner To save $42,000, I will get my real estate agent’s

license if I have to! (But I have sales experience…)

Listing with a real estate agent – 6% Be careful – Keep your back to the wall!

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Selling Your Home Tax consequences

Single – $250,000 tax free capital gains Married – $500,000 tax free capital gains Once every two years Some folks are buying “fixer-uppers”

Fixing them up in two years and selling them with no capital gains taxes

No capital losses on homes allowed

(continued)

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30-Year versus 15-Year Mortgage

Yrs

Rate

Pmt per $1,000

$300,000 Loan

Num Pmts

Total Amount

30 3½% $4.490 $1,347.00 360 $484,920

15 3% $6.906 $2,071.80 180 $372,924

Extra each month: $724.80 Less: $111,996

On a $300,000 mortgage, you can spend $111,996 less with a 15-year loan.

But that means coming up with an extra $724.80 each month.

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Mortgage Exercises

Let’s do some more exercises.

Don’t get too depressed…