1) An Apartment Offers More Benefits Than You Think
It is really really easy to get caught up in the glow of all of the potential benefits of home ownership. You can build equity! You don’t have a landlord skulking around! Once you pay off that mortgage, you won’t have any kind of monthly payment any more (well, you’ll still have property taxes and association fees and insurance…)! You can do whatever you want with the property–if you want to knock out a wall, go for it! If you want a fuchsia room, go for it!
The thing is, there are actually a lot of benefits to living in an apartment that people tend to overlook due to a “grass is greener on the other side” effect.
For starters, when you live in an apartment, you don’t have to do maintenance on the property. If something goes wrong, call the landlord. If it’s your house, you’re either going to be fixing it yourself or calling a repairperson and, in either case, you’re going to be spending money on parts (at the very least) and labor (if you bring in help).
For another, tasks like mowing the lawn and cutting weeds and trimming trees aren’t even on your radar. They’re just taken care of. You don’t have to spend the time on those tasks or pay for the equipment required. Those things all mean expenses when you’re living in a home, expenses that people often don’t look at when they compare a mortgage to apartment rent.
Before you ever consider buying, you really should spend some serious time looking at a good “rent versus buy” calculator, like this one from the New York Times.
You need to run the numbers over and over and over again and make absolutely sure that the financial benefits you’re getting from buying a home are greater than the financial benefits you’re getting from renting. Looking at the raw numbers removes the emotions and the “grass is greener” factor from the picture.
2) A 20 Percent Down Payment is Incredibly Important
If you don’t have a 20% down payment, you are going to wind up handing a lot of money to the bank to make up for it.
Here’s the reality of the situation: If you come to a bank without 20% of the cost of the home you want to buy already in hand, the bank is going to see you as a risk, as someone not serious about buying a home, as someone who might dump a house on them after not making many payments which leaves them swallowing almost the full cost of the house if they have to foreclose.
What the bank will do is not give you a loan unless you sign up for mortgage insurance. Mortgage insurance will amount to about 1% of the total balance of the mortgage each year; it will be tacked on to your mortgage payment. You can essentially think of mortgage insurance as adding a +1 to whatever the interest rate is on your loan–if it’s a 3.5% loan, you’ll effectively be paying a 4.5% interest rate.
That mortgage insurance is going to stick around until your remaining principal on the loan is less than 80% of the value of the home–and the bank won’t exactly be friendly about this, because they won’t let you remove the interest rate until they’re absolutely sure it’s less than 80% of the lowest possible value of your home.
Why do they do this? It’s insurance for them against a homeowner–you–who might not necessarily follow through on the mortgage. Why would they think that about you? It’s because you tried to borrow a lot of money without bringing much of your own to the table, as demonstrated by not having that 20% down payment.
So, the real impact of not having a 20% down payment is that for the first, say, third of the time you’re paying off the mortgage, you’re going to be effectively tacking on an additional payment each month, one that will add up to 1% of the value of the home over the course of a year. If you’re buying a $250,000 home, that means your mortgage insurance will cost you $2,500 a year until you get rid of it. It’s just gone–poof.
You can avoid this entirely by just saving up a 20% down payment, which you can do by being a little bit smart with your money. That’s actually really good practice for the realities of home ownership, because to be able to make home ownership a success, you need to be smart with your money. Home ownership is very rewarding, but there are a lot of costs involved, and if you’re spending money without much organization, simply learning how to save and make better choices with your money is vital preparation for home ownership and that 20% down payment savings project is a great way to learn.
3) Location Is Incredibly Important
This is something you likely already understand, but I’m putting it here to re-emphasize it. Location. Is. Very. Important.
Wherever you decide to live, you’re going to be commuting from that place to wherever it is that you work. That commute is going to have a cost in the form of both money and time, a cost that is going to be repeated over and over and over again as long as you have that job (and, likely, jobs similar to that one which will probably be in the same area).
If you live close to that area, great! You can walk to work or take a bike to work, which means your commuting costs are practically zero.
If you’re a bit further away, you can probably take the bus to work or the subway. You’ll have to pay some mass transit fees, but it’s still pretty cheap in the big scheme of things.
If you’re far away from work, you’re probably buying a car. A car is expensive. The AAA estimates that the average annual cost of owning a car, including all of the expenses (fuel, maintenance, registration, insurance, parking, depreciation, etc.), is $8,698 a year. Ouch.
If you pick a poor location, your commute cost goes up from $0 per year to $8,698 per year. That’s effectively tacking $700 a month onto your monthly housing expenses–and we’re not even talking about the time eaten each and every day.
This isn’t to say that this should be a deal breaker, but that it should be part of your math when figuring out whether to move.
4) Shop Around for Your Mortgage and Get Pre-Approved
Sarah and I did shop around on a very limited basis for a mortgage, but our “shopping around” mostly consisted of looking at a few advertised mortgage rates and then quickly selecting a single financial institution to work with.
What we should have done is actually meet with several different banks to discuss mortgage options and see what kind of mortgage offers they were willing to pre-approve for us.
Pre-approval is important. It gives you a dollar amount with which you can safely house hunt without having to go back and get approved. It’s effectively your budget for the house hunt.
It takes some time, but spend that time now. It will pay off enormously for you if you are able to find a bank that will shave 0.25% off of your interest rate while pre-approving you. Just getting that little amount is worth many, many hours of bank meetings.
5) Go Minimal When You’re Choosing a Home
When you’re in the process of house hunting, it’s very easy to get blown away by the bigger homes with nicer decor and furnishings. They look good. They’re roomy. They shine in comparison to smaller homes with lower quality decor.
The thing is, you’re paying for that extra space. You’re paying for those nicer elements. You’re paying a lot, in fact.
My advice? It’s similar to my advice when shopping for anything. Start at the bottom and inch your way up. Don’t start by looking at homes at the high end of your pre approval. Start by looking at a bunch of homes at the low end and see if any stand out to you for your needs.
Then, very slowly start lifting the ceiling on your price and looking at more expensive homes if you don’t find anything that really stands out to you.
If you start, as we did, by looking at homes that are on the very upper end of your price range (or even out of your price range), you’ll find yourself naturally predisposed against lower-priced homes. Your basis for comparison becomes that expensive, gorgeous home that’s going to be like a financial weight around your ankle, a home that doesn’t represent the best bang for the buck for you (which is what you’re really looking for).
Start cheap. Look at cheap homes, then inch upward. You’ll know a good home for you when you see it.
6) A 15-Year Mortgage Is Virtually Always a Better Idea Than a 30-Year Mortgage
Over the course of a 15-year mortgage, you’re going to end up paying about a third of the interest to the bank that you would pay over the course of a 30-year mortgage. That’s because not only is a 15-year mortgage much shorter in length (meaning you’re paying more principal each month), it also comes with a lower interest rate.
If that tip is true, why do people get a 30-year mortgage, ever? The reason’s simple: 30-year mortgages virtually always have a lower monthly payment. Even though it’s a poor long-term choice, people often look at the bigger 15-year payment and back away, believing that they’re not going to be able to afford it.
Here’s the truth: If you’re scared of the monthly payment of a 15-year mortgage, then a 30-year mortgage for the same amount is probably also a poor idea. It means that you’re buying more house than you can really afford.
Unless you have some sort of incredibly compelling and unusual reason for preferring a 30-year mortgage, you should be getting a 15-year mortgage. If it looks like you can’t afford the payments on the 15-year mortgage, then you need to be looking at a lower-priced property to buy.
We got a 30-year mortgage. We managed to pay it off in four and a half years (because we were making triple and quadruple and quintuple payments to try to become debt free). If we had a 15-year mortgage, we would have paid the whole thing off even faster, with even less mortgage given to the bank.