By Barbara O’Neill, Ph.D., CFP®, Rutgers Cooperative Extension, [email protected]
Personal Financial Management (PFM) program staff often counsel military families about the financial implications of buying a house. A home is the largest purchase that most people ever make. Many decisions have to be made during the home-buying process in unfamiliar areas (e.g., mortgages and home sale contracts).
Homeowners are responsible for all costs associated with their home including property taxes, homeowners insurance, condo or community fees, utilities, maintenance and repairs, and home improvements. Together, housing costs are a major expense in family budgets.
Fortunately, a home provides financial benefits. First, there is an opportunity to build equity. With every mortgage payment, some money that was borrowed is repaid. A second benefit is tax write-offs. Mortgage interest and property taxes (subject to a cap) on a principal residence are deductible if you can itemize.
A third financial benefit is leverage, which is the use of other people’s money to magnify potential financial gains. Example: a home is bought for $100,000 and, 10 years later, it is worth $200,000. The buyer put $10,000 down and took a $90,000 mortgage. Later, the house is worth 20 times more than the original investment!
Below are seven recommendations to share with service members who are buying a house:
- Shop Around for Financing– Take the time to shop for the best terms on a mortgage. It could save tens of thousands of dollars over time. Follow the “Rule of Three” and compare at least three different lenders as well as providers of every required service (e.g., realtor, mortgage lender, home inspector, and attorney).
- Know Your Borrowing Limits– Consider the guideline that homeowners should spend no more than 2 to 2.5 times their annual income for a home. Most lenders also use some variation of the “28/36 Rule.” This means that PITI (principal, interest, taxes, and insurance) cannot exceed 28% of gross monthly income and PITI, plus outstanding consumer debt (e.g., credit card payments), cannot exceed 36% of gross income. Example: A couple earning $60,000 annually, or $5,000 a month, would qualify for a mortgage with a $1,400 monthly PITI payment ($5,000 x .28) if they had no other debt and a $1,200 monthly payment if they had $600 of monthly consumer debt payments (5,000 x .36 = $1,800 – $600 = $1,200).
- Keep Saving- Continue saving to increase your down payment, while repaying consumer debts, if you are unable to afford a home within the above guidelines.
- Get Help- Inquire about loan programs for first time buyers and no- or low- down payment VA mortgages that are available to active duty service members and military veterans.
- Be Patient- It may take a year or more to accumulate enough cash to qualify for a mortgage on a starter home. Do not expect to purchase a large house with upscale features the first time around. You’ll also need to save for closing costs, which can amount to several thousand dollars.
- Get Pre-Approved- Before shopping for a house, get pre-approved. This means that a lender has verified your income, checked your credit, and agreed in writing to provide a mortgage up to a certain amount.
- Set Aside Maintenance Fund- Earmark money regularly for home maintenance and repairs. While small expenses can probably be paid out of pocket (e.g., a leaky faucet and a new garden hose), larger expenses will require readily available savings in a money market fund or bank account. Aim to save 1 to 3 percent of the value of the home annually, which can be part of an overall fund for household emergencies.
