Transcript Chapter 8 The Housing Decision - Auburn University, College of

Chapter 8
The 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:
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Employment
Commuting distance and time
Taxes
Public services
Schools
Chapter 8
The 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 the down
payment on a home
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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.
Chapter 8
The 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
Chapter 8
The 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.
Chapter 8
The 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
Chapter 8
The 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 homerepair and maintenance expenses. Owner must
bear these costs.
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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)
Chapter 8
The 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.
Chapter 8
The 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.
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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.
Chapter 8
The 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.
Chapter 8
The 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.
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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.
Chapter 8
The 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.
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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
Chapter 8
The 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.
Chapter 8
The 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?
Chapter 8
The 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.
Chapter 8
The 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.
Chapter 8
The 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 :
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plumbing
roof
foundation
electrical system
Quality and prices vary but normally
inspections cost between $150 and $250.
Chapter 8
The 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.
Chapter 8
The 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!
Chapter 8
The 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