Consider this before you buy a house

The other mortgage crisis
While owners hunker down renters begin to panic

By:

Erin Giglio, CPA



Ah, the loathsome renter. Homeowners either smirk at you or pity you, real estate agents are confused by you and loan officers attempt to counsel you out of your handicap.

Until about a year and a half ago…when it all changed.

There’s a new celebrity in town – the renter. After enduring years of demeaning remarks, you now skip happily into your tiny apartment with your latte in-hand while the neighbor who “owns” to your right glares enviously at you as they pour over their loan paperwork to determine just how much their mortgage payment is about to go up, since they too have one of those ARM thingees.

That house in the neighborhood you could never afford to buy in before now suddenly has dipped deliciously near your price range (the “upper” range, but whatever). Real estate agents and loan officers gleefully, if not deliriously, remind you of the amazing position you are currently in. Not to mention the resurgence of the entire United States economy hinges on your next move. No pressure or anything.

Among all this new found celebrity status and jaw dropping prices, renters may find that an excited panic is beginning to well up inside them. Sure you are no where near that down payment you had promised yourself you would save first, but who cares when the interest rates have dropped to the 4% range, right? This is like free money! The entire future of the family I’ll have some day rests upon what I do in the next 3 to 6 months! I can’t let this opportunity pass me by – I would be an idiot! I mean, in 20 years I’ll surely thank myself! Right? WRONG. Or at least maybe wrong. Before you find your dazed self at the home closing meeting wondering what the heck just happened, throw that latte you’re drinking on your head and snap out of it. There’s still that pesky four letter word to consider. The one (or lack there of) that this whole mess in the real estate market is beholden too – M-A-T-H.

Is it always better to own? Anyone who tells you yes without pulling out a spreadsheet is not someone who has your best interest in mind. That, or they too have tasted the kool-aid that has been in the water system over the past decade. But I would challenge you to take another look at the benefits of home ownership, which largely depends on how much you expect the house to increase in value each year as well as how long you expect to remain in the house. Now I’m not talking to those of you who have family living with you and space issues to consider – although you as well, need to do the math before making decisions. I’m talking to that single person who doesn’t need much space nor really dreams of white picket fences yet, but still financially savvy and ready to take advantage of an opportunity should one present itself. However, this market may not be the opportunity you are assuming it is. There is still something besides “the market” to consider – and that thing is YOU.

Keep in mind that debt is bondage. If you think it isn’t talk to that neighbor to your right who is still glaring at you. Do you really own anything if the bank can take it away if you don’t pay them every month? The days of assuming you can “just sell” when you are ready to move, or take a lower paying job, or take time off to write a novel, are over. Some of you are thinking right now surely the market is on its way up, surely this could never happen again. It is that kind of assumptive thinking that got many people into a jam. Home ownership is not a guaranteed ride down the rainbow, and history tends to repeat itself if behaviors don’t change – count on it.

In today’s economy, you always pay the piper. You just have to decide who your piper will be. The landlord or the bank (interest/principal payment)? The landlord or the county (real-estate taxes)? The landlord or the insurance agent (home-owners insurance)? The landlord or PMI? The landlord or water and sewage companies?

In a last ditch effort, the home owner pipes up, “Yes but my interest on my mortgage is tax deductible!” “Ha Ha!” they say with a fist pump “I’ve got you there!” But keep in mind that 28% (assuming you are in the 28% tax bracket) of something still leaves you paying the other 72%, whereas the renter pays nothing. Its not like the government gives you back all the interest you paid on a home loan – they just give you back the 28%. If you pay $10,000 in interest this year and the government gives you back $2,800 – you still lose in that math vacuum because the renter paid $0 and you paid $7,200.

You have got to DO THE MATH.

For example, if Joe buys a home for $150,000 and three years later sells the home for $160,000, did he do better than Mike, who rented during that time? It depends. But before you assume that just because the second number is bigger than the first means Joe trumps renter Mike, consider renter Mike a bit closer. It would help to open up a spreadsheet at this point – painful I know, but this is over a hundred thousand dollars of debt we are talking about here – with your name on it. Mike pays $575 in rent, heat is covered, and so is water, sewage, etc. He only pays electric – about $30 a month. He pays no real estate taxes, no PMI, no home owners insurance, no interest, and when the faucet breaks he doesn’t blink an eye or lose any sleep. But Joe made $10,000 in three years you say, and Mike made nothing! No Joe did not “make” $10,000 dollars. First of all, he had a ton of costs that Mike didn’t have, and he also paid a hefty 6% of the sales price (that’s $9,600) on commissions! So there goes his supposed $10,000 profit right there. I can’t show you in this article all the math to prove who does better, Joe or Mike, but I can tell you that at first glance I am certain that Mike has done better after three years. And if you don’t believe me – do the math and see for yourself. Go ahead, include the tax incentives too. Well, what if Joe sold if for $170,000? Then what? You tell me – back to the spreadsheet.

Beyond settling the question of what type of scenario you would do better in, let’s also ponder the question of the actual purchase, even if you think you can re-sell it for enough in the future to be better off than renting.

With constant media talk of the interest rate problems owners have had, everyone seems to have forgotten about the biggest piece of all – the debt. It seems the media in general seems to think that were it not for the adjusting interest rates, foreclosures wouldn’t be such an issue. While it may decrease foreclosures if everyone who bought had gone with a fixed rate no funny-stuff type of rate, it certainly wouldn’t eliminate the foreclosures - not even close. Even with a 0% interest rate some homeowners would find that they simply can’t pay the mortgage payment. And no wonder – in this debt addicted society we all live in and most of us participate in, what’s one more monthly payment, right?

Here are some basic questions to ask yourself:

1. Do you have 20% ready to put down? Before you start looking up your rich Uncle’s number, let me make this easier. When you check your savings account (401Ks don’t count, but nice try) do you see thousands of dollars just laying around in there? A 20% down payment on a $150,000 house is $30,000. If that number makes you slightly gag then perhaps you are not ready to be a home owner. I don’t care what “type” of loan you can get (no money down, etc.) – have we learned nothing from the current mess home owners are in? Plan on a 20% down payment. At the very least – 10%, and I mean the very least.

2. Do you have other debt? That includes student loans, your car payment and those darn credit cards. Let’s say you have $4,000 in student loans, $8,000 left to go on your car and $2,000 in credit cards. That’s $14,000 dollars. And now you want to buy a house too? You need to slow down. The bottom line is, as much as it hurts, you must pay that debt off before you proceed with home buying.

3. Do you have enough extra money at the end of the month to afford the mortgage payment? Let’s say you pay $600 in rent and you find out that the mortgage payment on this house you like will be $1,100. Do you have an extra $500 each month that just lies around? Do you find yourself at a loss as to how to spend it each month? If that’s not your reality you might not be ready (or able) to spend $1,100 a month on a mortgage payment. Not to mention can you afford to start paying higher heat bills, insurance, etc.

And then there is always this nonsense about “Well, but as the years go on you’ll get raises!” and “Surely your income will only go up!”. How do they know? While its fun to gamble $20 at the roulette table, lets not throw a big part of your financial future down on red. Because when people say things like that, even if a so called expert on TV tells you something like that, you would do well to ignore their advice, even if intended for good.

So relax, turn off your automatic email updates to the MLS, alert your real estate agent and all loan officers you know, that YOU are no longer on the market. Renters unite – let's clean up shop before we buy houses. In 20 years, we’ll thank me.