Chapter 8 The Housing Decision

1. Chapter 8The Housing Decision • Where Do You Want to Live? Location is probably the main consideration in choosing a place to live. Usually people choose an area before they choose a house. Considerations for a certain area include: • Employment • Commuting distance and time • Taxes • Public services • Schools

2. Chapter 8The Housing Decision • Financial Resources Play perhaps the most important role in your personal housing decisions. Financial resources give you the ability to: • Pay monthly housing expenses • Have enough cash to make thedown payment on a home

3. Chapter 8The Housing Decision • The Kind of Home You Want and Need Most people want bigger, but bigger means more expensive • Important to do a needs vs. want analysis • Also important to consider the different needs at various stages of life: • a family with young children needs more space and other features (a yard) than a retired couple does

4. Chapter 8The Housing Decision • Major Housing Options One of the most basic decisions you must make is what type of home you want. Sometimes the area you prefer determines type of options available. Options include: • Single family attached or detached home • A condominium (either high rise tower or garden apartment) • A manufactured (mobile) home • A rental apartment

5. Chapter 8The Housing Decision • Single-Family Homes • Accounts for 60% of all American households. • Buyer must obtain a mortgage (loan in which property is put up as collateral). • Lender has right to foreclose (sell) property if borrower defaults.

6. Chapter 8The Housing Decision • Condominiums • May include duplexes, row houses, high rise and garden apartments • Refers to a type of ownership rather than a type of building • Buyer receives title to unit plus ownership in all common areas (for example: the pool area) • Owner pays all costs of structure as well as proportional costs of maintaining facility

7. Chapter 8The Housing Decision • Manufactured (or Mobile) Homes • Around 95% of units are permanent structures • Much cheaper than site-built homes • Owners rent home sites (around $150 to $250 monthly) • Homes must conform to building codes regulating things like design, construction, plumbing, and electrical systems.

8. Chapter 8The Housing Decision • Rental Units • Units range from high-rise buildings, to garden apartments, and town houses • Most unfurnished although some may be furnished • Lease outlines rights and responsibilities of both tenants and landlords • Uniform Residential Landlord and Tenant Act designed to protect tenants from landlord abuse

9. Chapter 8The Housing Decision • Advantages of Renting vs. Buying • Liquidity -- No down payment required, so more funds available for investment purposes. • Mobility -- Renter may pick up and move at will without worrying about selling home (only concern is penalty associated with breaking a lease, may be a fee or remaining balance) • Certain cost savings -- Renter spared home-repair and maintenance expenses. Owner must bear these costs.

10. Chapter 8The Housing Decision • Advantages of Buying vs. Renting • Psychological advantages • sense of community and pride in ownership • almost unrestricted freedom in choosing decorating styles • Financial advantages • Potential price appreciation • Means of saving money • Tax savings

11. Chapter 8The Housing Decision • Financial Advantages of Buying • Means of Saving • Part of mortgage payment pays interest and the remainder repays principal • As years pass, equity (current value of house minus loan balance) increases • Reducing amount owed on loan is same as saving same amount of money

12. Chapter 8The Housing Decision • Home Affordability Purchasing a home requires many types of payments: 1. A down payment 2. A monthly payment 3. Closing costs (various kinds)

13. Chapter 8The Housing Decision • 1. Down Payment The down payment or initial investment is one of BIGGEST BARRIERS to purchasing a home. • Lenders require up-front lump sum from buyers • First-time buyers average less than 10% of purchase price for down payment; other buyers average around 25% of purchase price due to equity build up.

14. Chapter 8The Housing Decision • 1. Down Payment • The HIGHER the down payment, the LOWER the monthly payments • The HIGHER the down payment, the MORE DESIRABLE THE BUYER’S BUSINESS is from lender’s perspective, often meaning a lower interest rate.

15. Chapter 8The Housing Decision • Down Payments and Private Mortgage Insurance (PMI) • PMI usually required of buyer who obtains a conventional mortgage with less than 20% down payment • Private mortgage insurance insures lender for the gap between the 20% and the lower down payment • Can reduce amount of down payment to as low as 2.5% • Premium (fairly expensive) added to cost of monthly payment

16. Chapter 8The Housing Decision • 2. The Monthly Payment Most mortgages fully amortize over life of loan (Payments in equal amounts with part going toward interest and remainder reducing principal) Initially, amortizing payment primarily pays for interest; little principal is paid off. As time lengthens, payment primarily reduces principal

17. Chapter 8The Housing Decision • 3. Closing Costs • Costs associated with transfer of ownership from the seller to the buyer • Can easily amount to several thousand dollars • Within three days after buyer applies for loan, lender must provide good faith estimate of closing costs • Fall into two general categories: • Fees paid to the mortgage lender • Fees paid to third parties

18. Chapter 8The Housing Decision • Points -- One of Many Closing Costs • Fees paid (usually by buyer) to mortgage lender • Also known as loan origination fees or loan discount • One point = 1% of mortgage amount; on $100,000 loan, two points would total $2,000 • Considered to be interest so deductible on tax returns

19. Chapter 8The Housing Decision • Prepaid Interest -- Another Closing Cost • Covers the amount of the interest on the loan from closing date to beginning of period covered by first payment • If close on April 15 and first payment due June 1 (covering May interest due), you would be responsible to prepay interest from April 16 until April 30th. • Also deductible from taxes

20. Chapter 8The Housing Decision • More Closing Costs • Sales Commission -- paid by seller to agents; between 6 and 7% of purchase price • Title Insurance • Charges normally split between seller and buyer • Lenders require purchase of title insurance to guard against defects in public record • Title transferred at closing assures no known claims against the property

21. Chapter 8The Housing Decision • Sources of Mortgages FHA mortgages -- not government loans, but federally insured loans made by private lenders. Standards required for both property and buyers. May allow lower down payment since the loan is insured.

22. Chapter 8The Housing Decision • Sources of Mortgages • VA mortgages -- Loan guarantees offered to veterans of armed services. Low down payments and limits on closing costs help veterans finance purchase of housing. • Veterans Administration guarantees 100% of loan amount with maximum limits, depending on area of country.

23. Chapter 8The Housing Decision • Sources of Loans Conventional Mortgages -- a mortgage that is neither government insured or guaranteed. Comprises 75% of loans obtained by buyers. Lenders issue a note (indicates buyer responsible for debt) and mortgage (property pledged as collateral). Borrower must repay entire portion of debt, even if property is sold for less than amount of loan.

24. Chapter 8The Housing Decision • Types of Mortgages— • Fixed Rate • 30-year, fixed rate (360 equal payments). Owner can make advance payments or additional principal payments • 15-year, fixed rate (One-third of all new mortgage loans). Interest rate lower, but monthly payments higher; total interest paid less

25. Chapter 8The Housing Decision • Types of Mortgages— • Adjustable-rate (ARM) • Adjusted at pre-set intervals depending on what interest rates do (rate tied to a specified index, has cap over life of loan) • Initial interest rate (teaser rate) below rate for fixed loans, but rises over life of loan

26. Chapter 8The Housing Decision • Fixed-Rate Loan versus ARM Consumers frequently avoid ARMs because of unpredictability of rates and consequent difficulty in long-term budgeting. BUT an ARM may make sense in certain situations: 1. Buyer anticipates staying in present house for five years or less. 2. Buyer anticipates mortgage rates will drop in the next few years.

27. Chapter 8The Housing Decision • Refinancing a Mortgage Refinancing is paying off an old mortgage by replacing it with a new mortgage with different terms. As interest rates drop, refinancing becomes more attractive.

28. Chapter 8The Housing Decision • Second Mortgages • Rates higher and for shorter terms (riskier for the lender) • Can be used for any purchase the owner desires (home improvements, college education, etc.) • May foreclose on house if default on payment

29. Chapter 8The Housing Decision • Home Equity Loan • Allows owner to borrow up to maximum amount (based on equity in home) when needed without reapplying for loan each time • Carries lower interest rates than other loans

30. Chapter 8The Housing Decision • Home Equity Loan • Payments are tax deductible and made in regular installments • Because lender has lien on property, may lose home if default on payments, EVEN if first mortgage payments made on time

31. Chapter 8The Housing Decision • Steps in Buying the Right House 1. Consider pre-qualifying for a mortgage before you look for a house -- You will know how large a mortgage you can receive and seller will know you’re a serious buyer 2. Consider whether to hire a real estate agent -- Determine what length of time is acceptable to deal with one particular agent.

32. Chapter 8The Housing Decision • Steps in Buying the Right House 3. Consider how you will utilize the agent, once hired -- • Will you find the houses in areas you like and ask the realtor to show them to you? • Will you give the agent specifications for a desirable house and let her come up with possible matches?

33. Chapter 8The Housing Decision • Steps in Buying the Right House 4. Make a formal offer once you’ve found the house you want • Realtor will draw up contract and gives to seller who will either reject, accept, or counter offer. • With a counter offer, you may reject, accept, or counter again.

34. Chapter 8The Housing Decision • Steps in Buying the Right House If price is agreed on, you will have to pay earnest money (a security deposit applied to purchase price at closing). If you back out of agreed- upon sale, you lose this money. Amounts vary, but a minimum is usually $1,000.

35. Chapter 8The Housing Decision • Steps in Buying the Right House 5. Home Inspections Real estate contract is subject to a home inspection by a professional who checks such things as : • plumbing • roof • foundation • electrical system Quality and prices vary but normally inspections cost between $150 and $250.

36. Chapter 8The Housing Decision • Steps in Buying the Right House 6. Home Warranties • Warranties provide additional protection for the buyer. Newly-constructed homes usually have at least one-year warranty. • When buying existing home, seller required to verify condition of electrical and mechanical equipment.

37. Chapter 8The Housing Decision • Selling a Home One of first decisions is whether to sell yourself (FSBO) or list with an agent. • Advantage of selling yourself -- no sales commission to real estate agent!

38. Chapter 8The Housing Decision • Advantages of Listing with Agent • Agent can advertise to bring in buyers and have access to multiple listing services • Verify that potential buyers are able to complete the purchase (Called Qualifying) • Guide both buyer and seller through negotiations and closing