I just graduated! I’m ready to start enjoying my
life…why should I buy a house now?
This is a reasonable question. Buying a home is a large commitment.
It is also one that will be likely to keep you in one place for quite
some time. If you are thinking about a series of job transfers, or
significant changes in your lifestyle over the next few years, you
should think carefully about taking on that large responsibility.
Look at the real cost of owning a home compared to renting a
similar one. To do this, we should start with a few assumptions:
1. You plan to stay put for at least a few years. While selling a
home that no longer meets your needs or life’s situation is not
difficult, it does take some time to accomplish. If your job were
to call for a transfer, you’d be faced with the choice of selling
the home or of keeping it as an investment. Either choice is
possible, but this is a matter worth careful consideration to
2. Your income is reasonably secure. If you are at the beginning
of your career, you should feel confident that your job will
continue for the foreseeable future.
3. The real monthly cost of ownership is not a financial burden.
The first consideration in comparing renting and owning is the cash
needed to buy. It is true that there are many loan programs
available requiring a small down payment—3ó% or less—but you will
have to pay additional money for closing costs. Be aware that you will
likely have to come up with more money than the down payment.
You should have an idea in advance of how much cash you will
need to buy the kind of home you’ll be satisfied with, and where the
money will come from.
Next, be aware of the tax aspects of home ownership. A detailed
explanation of how tax deductions work is beyond the scope of this
book, but you should be mindful of the fact that you may be able to
reduce your income tax liability substantially when you deduct items
such as mortgage interest and property tax. You should consult a tax
professional early in your decision process to get an idea of what
those savings will be.
This is an important thing to know; if your tax consultant tells you that you may save $2,400 a year by deducting mortgage interest and property taxes, a $2,000 total mortgage payment becomes the equivalent of $1,800 because of the tax
savings. Your tax consultant will show you how to increase the
exemptions on your W-4 to increase your take-home pay rather than
having to wait for a tax refund at the end of the year.
Next, determine how much of your monthly mortgage payment
goes to reducing your principal balance. If you have a $200,000 loan
at 4.5%, for example, your monthly payment will be $1,013. In your
first year, you will pay down the balance to $196,773, or $3,226. You
should think of this part of your payment as a sort of “forced savings”
account. Although the amount of interest you’ll pay decreases each
year as you pay down the balance, we can use the first-year figure
for our simple comparison.
The monthly mortgage payment (not
including taxes and insurance) is $1,013, but $269 each month goes
to your “forced savings” account. You should consider the remaining
$744—the interest on your mortgage—to be like the “rent” on the
money you borrowed to buy your house.
You will also pay taxes and insurance when you own your home.
Your landlord pays those items, too, but that is part of the rent you
pay. For this example, we’ll assume that your taxes and insurance
amount to $1,400 per month.
You can begin your rent-vs-own comparison by looking at the
difference between the rent you would pay now with the taxadjusted
mortgage payment. We’ll assume that you can rent a
house like the one you can buy for $1,200 per month. Although the
expense of owning initially seems to be $200 higher each month,
that difference may disappear when we account for the taxadvantages.
The real cost of owning a home decreases, even more,when we consider the part of each paymenthat reduces the principal balance.
This comparison may seem overly simplistic, and in one sense, it is.
We have not considered the cash needed to buy the home. Getting
together a 20% down payment plus a few thousands more for a
down payment is not a trivial undertaking—and it is a major
challenge for a great many people. For more info.
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