7 Selecting and Financing Housing

1. 7 Selecting and Financing Housing Evaluating Renting and Buying Alternatives • Your lifestyle and your choice of housing • How you spend your time and money • Every buying decision = lifestyle statement • Personal preferences vs. financial factors • Traditional financial guidelines: • Spend no more than 25-30% of take-home pay on housing, or • No more than 2 1/2 times your annual income • More difficult to do in inexpensive urban areas 7-1

2. Objective1Assess Costs and Benefits of Renting Choice should be based on: • Lifestyle (do you like or want to do maintenance tasks?) • Financial factors (e.g., affordability, tax deductions, equity) • Mobility vs. permanence (are you able to “settle down”?) • Renting = less costly in short run (monthly payment) • Home ownership =long-term financial advantages (tax deductions and equity growth over time) 7-2

3. Renting vs. Buying Housing 7-3

4. Rental Activities • Selecting a rental unit • Apartment or house • Advantages of renting • Easier to move • Fewer maintenance responsibilities • Minimal financial commitments • Disadvantages of renting • No tax benefits • “Money down the drain” (not building equity) • Limitations regarding remodeling • Restrictions regarding pets and other activities 7-4

5. Legal Details of a Lease • Description and address of property • Name and address of the owner/landlord (lessor) • Name of tenant (lessee) • Effective date and length of the lease • Amount of security deposit • Amount and due date of rent • Date and amount for late rent payments • List of included utilities, appliances, etc. • Restrictions on certain activities (e.g., pets, remodeling) • The right to sublet the unit; transfer clause • Conditions under which landlord may enter unit 7-5

6. Objective 2Implement the Home-Buying Process 7-6

7. Home Buying ActivitiesStep 1: Determine Homeownership Needs • Evaluate Home Ownership • Stability of Residence • American dream/norm (personalized living location) • Financial Benefits • Deduct property taxes, mortgage interest • Potential increase in value of your home • Building equity in your home • Lifestyle Flexibility – Can Express Your Individuality • Drawbacks of Homeownership • Financial Uncertainty • Obtaining money for the down payment • Obtaining mortgage financing • Home values could drop; can go “underwater” and lose money • Limited Mobility • Can take time to sell your home • Higher Living Costs (Than Renting) • Maintenance, repainting, repairs, and home improvements • Rising real estate taxes 7-7

8. Home Buying ActivitiesTypes of Housing Available • Single-Family Dwelling • Multi-Unit Dwelling • Duplex (two homes) • Townhouse (2, 4, or 6 units) • Condominium • Individual ownership of a unit in a building • “Condominium” ≠ a type of building structure • “Condominium” = a legal form of homeownership • Cooperative Housing • Units owned by a non-profit organization • Shareholders purchase stock for right to live in unit in building with multiple units • Manufactured Homes • Fully or partially assembled in a factory, and then moved to the housing site • Prefabricated = components factory-built and assembled at the site • Mass production under factory conditions keeps costs lower than site-built homes 7-8

9. Home Buying ActivitiesTypes of Housing Available Mobile Homes • Type of manufactured home, often <1,000 sq. ft. • Same basic features as a conventional house • Safety is debated • Tend to depreciate in value (like cars) • Owners must own the land or rent the “pad” on which mobile home is placed 7-9

10. Home Buying ActivitiesTypes of Housing Available • Building a Custom Home: • Does the contractor have needed experience? • Does contractor have a good working relationship with: - Architect? - Suppliers? - Electricians? - Plumbers ? - Carpenters? • What assurance do you have about quality? • What are payment arrangements? • What delays will be considered legitimate? • Is the contractor licensed and insured? • Are there any complaints about this contractor? • Contract should have a time schedule, cost estimates, description of work, and a payment schedule 7-10

11. Home Buying ActivitiesDetermine What You Can Afford • Consider both price and quality • Look at your income, your current living expenses, and how much you have for a down payment • Have a loan officer prequalify you • Front-End Ratio- monthly payment for PITI should not exceed 25% to 29% of gross income • Back-end Ratio- monthly payment for PITI plus ALL CONSUMER DEBTS should not exceed 33% to 41% of gross income • Purchase what you can afford NOW - you can always move up • Buy a “fixer-upper” at a lower price ONLY if you have the time, skills, and money to fix it up 7-11

12. Home Buying Activities Step 2: Find and Evaluate a Home • Select a location, location, location • Be aware of zoning laws • Assess the school system-if you have children OR not • Services of real estate agents • Will show homes that meet your needs, present your offer, negotiate the price, assist in obtaining financing, and represent you at the closing • Commission paid by seller; built into price • Seller’s agent, Dual agent, or Buyer’s agent • The Home Inspection • Conduct a home inspection or hire an inspector • Mortgage company will require an appraisal 7-12

13. HomeBuying Activities Step 3: Price the Property • Determine the Home Price • Price affected by selling prices in the area • Current demand for housing • Time home has been on the market • Owner’s need to sell • Financing options • Features and condition of the home • Negotiate the Purchase Price • Counteroffers are common • Earnest money • Portion of the price deposited as evidence of good faith • Contingency clause • Offer dependent on certain events: • Obtaining financing • Sale of current home 7-13

14. Objective 3Determine Costs Associated with Purchasing a Home • The Finances of Home Buying: The Downpayment and The Mortgage Step 4: Obtain Financing • Determine down payment amount • Large (> 20%) downpayment makes the process easier • Mortgage insurance if < 20% down (PMI) • Automatic PMI termination when equity =>22% • Required by Homeowners Protection Act • Feature of a mortgage: LEVERAGE (using other people’s money; magnifies a home’s gain or loss) 7-14

15. Home Buying ActivitiesThe Mortgage • Long-term loan on a specific piece of property (e.g., primary home or other real estate) • Usually 10, 15, 20, 25, or 30 years • Three main phases • Complete application and meet with lender to provide evidence of qualification • Lender obtains credit report and verifies application • Mortgage is approved or denied • Lender commits to make loan for a set period; check lender’s interest-rate lock-in rules 7-15

16. Home Buying ActivitiesThe Mortgage • Qualifying for a mortgage includes: • Income • Debts • Credit history (700+ score) • Down payment amount • Length of the loan • Current mortgage rates • “Points” = prepaid interest as a % of loan amount • Each point =1% of the loan amount • Premium paid to obtain a lower mortgage rate 7-16

17. Home Buying ActivitiesThe Mortgage • Loan for which you qualify will be greater when rates are lower • Calculating the monthly principal and interest payment: • Exhibit 7-7 = Mortgage payment factors (page 230) • Example: • 30-year, 7%, $223,000 mortgage • Monthly payment = 223 X $6.65 = $1,482.95 • Payment = Principal repayment + interest • PITI = payment + taxes + insurance • Fixed-Rate, Fixed-Payment Mortgage • Fixed rate, fixed payment, amortized • 5%, 10% or 20% down • 15, 20 or 30 years of fixed payments • Government-Guaranteed Financing Programs • Veterans Administration (VA) • Federal Housing Authority (FHA) • Lower down payment than conventional 7-17

18. Home Buying ActivitiesTypes of Mortgages • Adjustable Rate Mortgage (ARM) • Flexible-rate or variable-rate mortgage • Interest rate varies over the life of the loan • Rate cap restricts amount of change in rate • Payment cap restricts amount of change in payment • Can result in negative amortization • Convertible ARM • Allows conversion to a fixed rate during a certain period • Balloon Mortgage • Fixed monthly payments • Large final payment after 3, 5, or 7 years • Growing-Equity Mortgage (GEM) • Payments increase to allow loan to be paid off more quickly • Interest-Only Mortgage • Lower payments for the first few years • Payments go towards interest only 7-18

19. Home Buying ActivitiesOther Financing Options • Shared Appreciation Mortgage (SAM) • Borrower gets a lower interest rate • Agrees to share appreciated value of home with the lender • Second Mortgage • Home equity loan (fixed payments) or HE Line of credit to tap • Home = collateral • Interest may be tax deductible • Reverse mortgages • Home equity conversion mortgage • Provides homeowners who are 62+ with tax-free income based on home equity; high up-front costs Mortgage Repayment Strategies • Refinancing • Consider costs of refinancing in decision • Making extra payments • Reduces payoff time & interest paid 7-19

20. Home Buying Activities Step 5: Close the Purchase Transaction • Make arrangements for a walk through • Last-minute items for negotiation • Closing • Meeting including buyer, seller, lawyers (if any) and sometimes lender • Document signing • Last-minute details settled; expense payments • Closing costs = settlement costs • Real Estate Settlement Procedures Act • Requires buyers be given closing costs estimate before the closing 7-20

21. Home Buying Activities Closing Costs • Title insurance and search fee • Attorney’s and appraisers fees • Property survey • Pest inspection • Recording fees • Transfer taxes • Credit report • Lender’s origination fee • Escrow account for tax and insurance reserve • Pre-paid interest • Real estate broker’s commission • Title Insurance • Title company defines boundaries of property • Title search to insure property is free of claims • Protects against future defects in title • Deed • Document that transfers ownership • Warranty deed guarantees the title is good • Seller is true owner with right to sell the property • No outstanding claims against the title • Escrow Account • Money deposited with lending institution for payment of taxes and insurance 7-21

22. Objective 4Develop a Strategy for Selling a Home Preparing your home • Repair, repaint, clean, reduce clutter • When showing home, “Stage It”: • Turn on lights • Open draperies • Bake bread or make coffee for welcoming smell • “Curb appeal” • Lawn and landscaping • Outdoor clutter • Exterior paint 7-22

23. Selling Your Home • Determining the selling price • Appraisal = estimate of the current value • “For Sale by Owner” • Use a lawyer or title company • Time consuming for seller • Listing with a Real Estate Agent • Consider agent’s knowledge of the community • Various services and marketing efforts • Screens potential buyers 7-23

24. Wrap Up • Chapter Quiz • Concept Check 7-1- Rent or Buy? • Concept Check 7-2- Quality of School for Childless Home Buyers? • Concept Check 7-3- Main Sources of Money for Downpayment? and Type of Home Financing Action?