Are You Ready to Buy A Home?
I received a telephone call from Maurice inquiring about a house I had listed over a year earlier. I arranged to meet him at the house a little later and we made a quick tour so he could make it to work on time.
Maurice was a young man, close to the same age as my youngest son. I was very impressed by his sincerity, his openness and his vulnerability. He was not particularly impressed with the house which didn’t surprise me. I assured him that my objective was to help him find the right house rather than to sell him one that didn’t match his expectations. As he began to tell me his story I recognized how easily an agent who wanted to make a quick sale could take advantage of him.
We finished our tour and sat down on the large front deck to get better acquainted. I asked Maurice to tell me about himself, why he was looking at homes, and how I might be helpful to him. He was only 22 and I was concerned that his youthful naivete not be exploited. I told him I would treat him the way I would expect an agent to treat my own son.
First-time buyers, especially young first-time buyers deserve a buyer’s agent to help them determine if the time is right for them to buy; how much they can afford to spend; and if a house is a good buy. What they don’t need is an agent who is going to encourage them to do anything that will not be right for them.
Maurice’s Story: He and his girl friend since high school wanted to marry but her father had never accepted him and opposed the marriage. He had a good job, had saved his money for a down payment, was out of debt, and was willing to do whatever it took to impress his girl friend’s father. It was late October and he wanted to buy a house as a surprise Christmas present for his future wife. A tight fit under ideal conditions.
With my encouragement Maurice included his fiancé in the process even though he had wanted to surprise her. She was a delightful girl and clearly as much in love with him as he was with her. We found a house and closed on Christmas Eve.
Every Buyer has a story that is different and the first thing a Buyer’s Agent should do is listen to their prospective client’s story. I want my clients to know they can trust me to never do anything that will be contrary to what is in their best interest. To make good on this commitment, l must get to know my clients and demonstrate to them that they can trust me. Most of us are reluctant to share our story, our inner thoughts, our hopes and dreams, with a stranger. I understand this and I respect my clients right to privacy. I know that when they understand why it is important for me to know their story, their reasons for buying a home, and are ready to trust me to help them make one of the most important decisions they will ever make they will share with me what they are comfortable sharing.
I am concerned about all the Maurice’s in the world who are ready to buy a home but need to know how the system works; where they can find help; how to spend $100,000 or $250,000 safely and prudently; and how to protect their investment in the future.
The National Association of Realtors publishes an annual Profile of Home Buyers and Sellers. The first thing that caught my eye in the 2009 edition was the increase in the number of first-time home buyers from 41% in 2008 to 47% in 2009
No doubt the tax credit for first-time buyers was a factor. If half of all buyers of residential real estate are experiencing the process for the first-time the role of the Buyer’s Agent must either adapt to this reality or half of the buyers will receive less service than they deserve or need. As the first-time homebuyer share of the market increases, the demand for REALTORS® with the specialized skills needed to represent the increasingly diverse demographics of the home buyers of the twenty-first Century also increases.
Are You Ready to Buy A Home?
What does it mean to “own a home”? Typically anyone who holds title to a home is considered to be a homeowner even if they have zero or negative equity in the home. By this imprecise definition of home ownership, the percentage of Americans who own their own home has been above 60% for the past half century. Before the flood of foreclosures took its toll the percentage was generally estimated in the range of 66-68% in 2008. The implied policy of the nation has been clearly tilted toward buying versus renting for decades. The only significant remaining form of consumer credit interest deductible for income tax purposes is interest paid on a home loan.
An additional incentive for home ownership is inclusion of interest on home equity lines of credit (HELOC) whether the money borrowed is used for the purchase or improvement of a personal residence. Ironically this generous interpretation which encouraged homeowners to use Home Equity Lines of Credit (HELOC) to buy all sorts of things they otherwise could not afford and/or indulge themselves beyond their means may be a contributor to the present mortgage crisis.
According to First American CoreLogic, a real-estate information company based in Santa Ana, California, “Nearly 10.7 million households had negative equity in their homes in the third quarter [of 2009].”
The result is that the percentage of “U.S. Homeowners who owe more on their mortgages than the properties are worth has swelled to about 23%, threatening prospects for a sustained housing recovery.”
Many homeowners are only in a negative equity position because of second mortgages.
If one in four borrowers is underwater on their mortgage, it is probably a stretch to include them as homeowners. Not only do they not have any equity in their home, they owe more than it is worth. It is estimated that 5.3 million U.S. households have negative equity exceeding 20% of their home’s present value.
It would be inaccurate and misleading to imply that the majority of these homeowners are in a negative equity position due to the combined debt from the first mortgage and subsequent HELOC. Many of them made down payments as high as 20% and do not have a HELOC yet they have lost their cash equity and more due to the bursting of the housing bubble. It is not uncommon in some markets to find current values less than 50% of the value at the peak of the housing market only 3 or 4 years ago.
Owning your own home is widely considered the fulfillment of the American Dream. Yet, according to The Joint Center for Housing Studies of Harvard University, “In any given year, some 34 million US households make their homes in rental housing. Like the general population, renters are highly diverse in demographic and income terms, as well as in their reasons for residing where they do.”
The flood of foreclosures and short sales is adequate evidence that millions of Americans who bought homes over the past 5 to 10 years might well have investigated their options a little more carefully before taking on more than prudence would have dictated. There are really three questions here instead of one. Buying may have many advantages over renting and still not be the right decision for you at this time. Moreover, this may be a great time for you to buy a home, yet if you make the wrong decision about how much to spend on a home or where you buy, you may still find that you made a mistake.
I am not implying that all homeowners who are facing a loss they will regret for years should have known better. They got caught in the perfect storm when the virtual collapse of the global financial system and the collapse of the overheated housing market occurred at the worst possible time for them.
With the benefit of hindsight many of those who have lost everything are blaming themselves for making bad decisions either about whether to buy, how much they could afford to pay, and the type of loan they signed. In some cases these homeowners listened to the wrong advisors or perhaps they refused to take the advice they were given. Even cautious buyers with fixed rate loans have been affected.
Timing is Everything!
Home ownership can be the pinnacle of stability and self-reliance but the thrill of home ownership can become the agony of foreclosure if the decision is made lightly or ill-advisedly. Personal circumstances can change quickly due to loss of job, medical bills, divorce, or other circumstances. Often I have heard the sad refrain, we should have waited to buy a home; or we should have bought a less expensive home.
Home ownership may not be the best choice for everyone. And some who bought homes during the past dozen years discovered too late that home ownership was not the right option for them and have now gone through the painful process of losing their home to foreclosure or are struggling to make mortgages payments far larger than they anticipated.
Renting is not always chosen because it is the only option available. As the Harvard study notes:
“Many higher-income renters could buy homes but prefer to rent because they want to maintain a flexible lifestyle, with easy access to work and the amenities of the city. Others rent because they want to take advantage of the low transactions costs, at least relative to those involved in homeownership. Still others rent to avoid the risk of a potentially volatile home purchase market.
For working families with more modest incomes, rental housing provides a place to live during such life transitions as a job change or divorce. Renting also enables households to save to purchase a home.”
“For many households, rental housing offers a number of advantages over homeownership. In particular, renting can provide more flexibility, greater convenience, and lower costs than buying a home.”
A quick Internet search will produce dozens of websites offering an interactive calculator to weigh the relative advantages and disadvantages of renting or owning. Some will be skewed more toward buying and some more toward renting by the formulas they use. It’s best to select a calculator on a site that does not have a direct interest in which decision you make.
The decision to buy or rent should reflect a careful analysis of your personal and family circumstances, your lifestyle expectations, your financial circumstances and your emotional health. Peer pressure is never a valid reason to buy a home. This will most likely be the largest single financial decision you will ever make. Do your homework, examine your motives, consider whether you are ready for the responsibilities and constraints that go with owning a home.
If you decide after careful consideration that this is not the right time for you to buy a home, you need not give up permanently on owning a home. Continue to save your money and work on your credit score and your time will come. If you decide that this is the right time to look for a home of your own, you will be able to proceed with greater confidence if you have worked through the steps involved rather than jumping into the biggest financial decision of your life and hoping nothing happens to cause you to regret your decision.
The good news, especially for first time home buyers, is that the conditions that favor the buyer are all in place now and will likely continue to favor buyers at least through 2010. Interest rates are low, an abundance of homes are on the market at record low prices, and sellers are more willing to negotiate now than at any time in the recent past.
Four Dimensions of Readiness
There are four important dimensions to be considered before you make a decision to buy a home. The issues are complex and the distinction between being ready and not being ready may be a close call. Regardless of the decision you make, it is important that you be aware of the issues involved as you move forward.
Renting an apartment may have been the right option when you were single, or married with no children. Rather than spending evenings and weekends maintaining a home or yard, you had time for social events and activities and life was relatively simple. However over time you have come to realize that your priorities are changing and you are ready for a different life style with room to grow, to play in the yard, and to be your own landlord. When you make that decision it is time to talk with a professional who specializes in helping people find a home suited to their needs and budget.
One of the things that may have triggered your interest in owning a home is that your friends with whom you used to spend time are buying homes. Nothing surprising about this. It’s been happening for a long time. The only caution is that you make sure you are ready for the changes home ownership will bring with it.
How committed are you to the idea of owning your own home? Take at least a mental inventory of how you spend your time and your money at present. What changes would home ownership require? What about your job? How long have you been on the same job? Is it a career that you intend to pursue long-term or is it a job that you will work at until something better comes along? Is it likely that you might need to relocate to pursue a more satisfying job? If so, would owning a home become a burden?
Ask yourself, Why am I buying a home? Because my friends are doing it? Because I think it will be an investment that will grow over time? Because I want more room and flexibility than is possible in a rental home? Have I saved enough for the down payment? This is not a scorecard where you must achieve a certain score. Rather it is a personal inventory that should force you to think long and hard rather than making an impromptu decision.
Life Style Readiness
Are you prepared to curtail travel or weekend recreation to keep up with the maintenance that goes with home ownership? If you have been living in a full maintenance apartment or condo, have you thought about who is going to mow the grass every week during the spring, summer, and fall? Or do you have sufficient discretionary income to hire someone to handle the maintenance, landscaping, and repairs that go with owning your own home?
Are you single or have a roommate, partner, or spouse? Do you like to host loud parties that might cause problems with neighbors in a subdivision? Do you have children who are constrained by the absence of a yard or playground? Do you have pets that need to be outdoors and the only way you can find a suitable home is to buy? Do you want to have your own garden, maybe some chickens, and this is out of the question in a rental home?
Do you travel extensively for business or other purposes? Will your home be unattended for extended periods? If you own a home you are usually responsible for lawn maintenance and security unless you buy where these amenities are a part of the homeowners association dues. I want to be clear that home ownership may be the perfect choice for you regardless of life style, family composition, age, gender, etc.
Do you like the freedom and relative anonymity that is possible through apartment living? Are you eager to put down roots and have neighbors who will share your desire for stability? Life style may be more of an indicator of the type and location of the home you buy than a reason to buy or not. Did you grow up in a small town where ‘everybody knew your name’? Or have you always lived in an urban or suburban location close to shopping, recreation, and entertainment?
Life styles are as varied as anyone can imagine and everyone has a right to make their own choices as to lifestyle so long as the choice you make doesn’t interfere with the rights and freedoms of others. Don’t slide past this threshold question. It could be the key to future happiness or it could lead to buyer’s remorse. Be honest with yourself about what type of housing is a good match for you and share this with your Buyer’s Agent. You should know that your Buyer’s Agent is committed to full compliance with the Fair Housing Act. The key provision of the Fair Housing Act is as follows:
It shall be unlawful for any person or other entity whose business includes engaging in residential real estate-related transactions to discriminate against any person in making available such a transaction, or in the terms or conditions of such a transaction, because of race, color, religion, sex, handicap, familial status, or national origin.
You are always free to tell your agent you want to look at homes in a specific neighborhood or subdivision, but don’t expect your agent to select homes on the basis of the concentration of owners who may fall in one of the above protected classes. Your Agent will not select homes in a subdivision because of the race or color of a majority of the home owners. That would be “steering” and that is both unlawful and unethical. Keep in mind that it is the diversity of our communities that enriches the lives of all of us.
Most people experience stress when they decide to buy a home. Experts on stress tell us that buying a home ranks along side marriage, birth of a child, losing your job, and divorce at the top of the list of the most stressful experiences in life. When we experience excessive stress—whether from internal worry or external circumstance—a bodily reaction is triggered, called the "fight or flight" response, which is hard-wired into our brains and represents a genetic wisdom designed to protect us from bodily harm.
By its very design, the fight or flight response leads us to fight or to flee—both creating immense amounts of muscle movement and physical exertion. This physical activity effectively metabolizes the stress hormones released as a result of the activation of our fight or flight response. Once the fighting is over, and the threat—which triggered the response—has been eliminated, our body and mind return to a state of calm.
In most cases today, once our fight or flight response is activated, we cannot flee. We cannot fight. We cannot physically run from our perceived threats. When we are faced with modern day, saber tooth tigers, we have to sit in our office and control ourselves.
The impact of stress is even greater when we attempt to deal with multiple stressors simultaneously.
The point to keep in mind is that it is best to spread out big decisions. Most healthy adults can handle most any challenge without an unbearable level of stress. The decision to buy a home is one about which you have a high degree of control regarding timing, cost, location, etc., compared with other changes over which you may have much less control.
If there are a number of changes going on in your life, e.g., you have just begun a new and challenging job, you recently married, or your favorite uncle recently died of cancer, you might consider working through the other stressors in your life before you take on the search for a home. This may mean that it would be wise to delay buying a home until after your daughter’s wedding or until you are settled into your new job.
You can still work on developing your plans but do it at a less hectic pace. Concentrate on what you are doing at present until you are emotionally ready for the next big challenge. No need to worry about what comes next. Do a good job with the present task and the future tasks can be accomplished in due time.
If you focus on Step One and resist the temptation to take on subsequent steps before you have finished the first step, you will find that your stress level is more manageable. Individuals who borrow trouble from the future often have trouble coping with the challenges of today.
Accept that a little buyer’s remorse is inevitable and will probably pass. If you have fears or concerns, let your REALTOR® know. She/he can help you through them. It might surprise you that most people experience increased stress when facing decisions that can literally be life-changing. If you plan well and follow your plan, look forward to the joy of moving into your new home!
Are You Financially Ready?
The issue here is not selecting a lender, obtaining a pre-approval letter, or securing a mortgage to finance your home. The issue here is taking stock of your financial preparedness as a part of your decision whether buying a home is the right decision for you at this time.
Real Estate Settlement Procedures Act (RESPA)
The Department of Housing and Urban Development has developed programs and consumer protection guidelines that every prospective homeowner should know about.
The Real Estate Settlement Procedures Act (RESPA) requires lenders and mortgage brokers to give you HUD’s Settlement Cost Booklet, Shopping for Your Home Loan, within three days of applying for a mortgage loan. RESPA is a federal law that helps protect consumers from unfair practices by settlement service providers during the home-buying and loan process. You may download a copy of the booklet at the HUD website at any time. I encourage you to do this sooner rather than later. It will provide you an excellent reference to assist you as you consider your readiness to buy a home.
You should assume that you will need cash for a down payment in an amount ranging from 3% to 20% of the purchase price of a home.
The remainder will be the amount you will need to borrow using the house as collateral. The true cost of the house will depend in part on the interest rate and terms of the loan for which you qualify. The best interest rates are available to buyers prepared to make a down payment of 20% of the value of the home they are buying. Lenders want the Buyer to have some ‘skin’ in the game. With little or no equity to lose, buyers are more likely to walk and leave the lender with a house they don’t want.
You will also need cash to cover closing costs which will amount to 3%-5% of the amount of your purchase. It is sometimes possible to roll the closing costs into the loan depending on the type of loan and whether the appraisal will cover the increase. How much you can borrow and the interest rate you will be charged will depend on something called a Credit Score. freecreditreport.com. If you enroll in the 7-day free trial offered on this site you should be aware of the terms and conditions of the free trial. Read the fine print of the Terms and Conditions before going further.
Remember there is a difference between the Credit Report which you can obtain free at least once a year and the Credit Score which you will probably have to pay to receive in spite of the misleading television ads to the contrary. The most high profile ads I have seen are those for http://www.
The most highly rated source for credit information is http://www.myfico.com/. This site has been rated by Kiplinger’s as the best place to obtain consumer credit products for the second year In a row. They offer a 30-day free trial but don’t count on them to warn you when your 30 days are up.
The higher your credit score the better, but “there is no single cutoff score used by all lenders. However, you should expect that if your credit score is under 700 you may be approved for a loan but you will not receive the best interest rate and your loan may be considerably more expensive.
Are you prepared to make changes in how you currently spend your money to meet the payments on your mortgage? Are you maxed out on several of your credit cards already? Are you having trouble stretching your paycheck to cover all of your current monthly bills? How much margin do you have for error? Are you relying on two incomes or one? If one of the paychecks goes away due to loss of job, illness, or the need for one of you to stay home with children, could you cover the increased cost of home ownership?
How Much Can You Afford to Spend on a House?
Everyone asks for a simple formula to determine how much they can afford to pay for a home. Some financial advisors suggest using 21% to 24% of your monthly income as the maximum amount you can pay for principal, interest, insurance and taxes. Others will tell you to multiply your gross income by 3 to determine what you can afford to pay for a home. Still others attempt to factor into the formula the amount of debt your already have. They will suggest your total monthly debt load including all of your consumer credit payments including a home mortgage should not exceed 40% to 41%.
There is no shortcut that will fit all situations. There are only two reliable ways to determine what you can comfortably afford. One is to prepare a budget comparing your net after tax income to your monthly expenses. The difference between your total expenses and your net income is the maximum you can consider paying each month for a mortgage payment.
Use the HUD “WHAT YOU CAN AFFORD WORKSHEET”
The worksheet from HUD’s Settlement Cost Booklet will assist you in calculating your monthly income and expenses to determine the amount you have left over every month to pay for housing-related expenses such as your monthly loan payment, property taxes and homeowner’s insurance.
How much are you paying at present?
Another option is to consider the amount you are currently paying each month for rent plus renter’s insurance, HOA dues and other housing related assessments? Is this amount the most you can comfortably pay each month for housing? Don’t play any games with yourself because in this game you are the one who will be the loser if you try to fake it. Don’t tell yourself that if you buy a house you can pay more because you will drop your health club membership, stop going out to dinner, take a less expensive vacation, spend less on clothing, or drive the same car longer. You will get some help from the mortgage interest deduction that isn’t available to renters, but don’t count on that being a huge windfall. And don’t forget about the hidden costs of home ownership including maintenance, repairs, and lawn care.
As your Buyer’s Agent I have the obligation to be honest with you about the cost of home ownership. If I encourage you to buy before you are financially ready, or to buy more than is prudent for you, there is a strong likelihood that you may come to regret your decision. Worst case, you might even lose your home and any equity you have in it. Buying more house than you can afford is a serious mistake and I do not want to be an enabler. Your first home is not likely to be your last home. Be realistic about what you can afford today, and if you are as financially successful as you hope to be, I’ll be there to help you buy the bigger, more expensive home when you are ready.
Don’t try assessing your readiness alone. If you haven’t selected a buyer’s agent, now is the time. Don’t even think of trying to go through the process without the assistance of a professional. Using a professional REALTOR® is the smart way to buy a home and if you pick the right REALTOR® the odds of it turning sour in the future will be significantly reduced. There will always be a risk–a risk that your financial circumstances deteriorate, a medical emergency occurs, or you lose your job, but trying to do it by yourself without the help of a professional guide escalates the risk beyond the limits of prudent decision making. Of course it is important that the REALTOR® you select be the right one for you and the lender you select encourage you to select the right type of mortgage.
Hiring a Buyers Agent early in the process is really a no-brainer. First, you select your agent but the Seller will pay him/her. Second, whether you select an agent to help you early or late, the cost is the same. The sooner an agent is involved the more value they will bring to the process.
Buying A Home in an Uncertain Economy
By the end of 2006, the real estate market in the U.S. was heading downward but the angle of incline and rate of decline were not yet readily apparent in real time. With nearly 6.5 million homes sold, 2006 could easily have been considered a banner year except for the fact that fourth quarter sales were at an annualized rate of only 4.7 million. Moreover, both the mean and median sales prices in December were 20% below the figures for the full year.
Little did we know then that these negative trends in the real estate market were but a small part of the massive economic meltdown that was on the horizon. By the fall of 2008, a full-blown crisis dominated all news media both in the U.S. and around the world. There is never a good time for an economic crisis of this magnitude but if one time could be described as worth than another, this would be it. The presidential election was in its final weeks and indications were growing stronger that on election day the United States would have a president-elect from a different party than the president. The incumbent lame duck president had limited political capital left with which to broker any kind of response that would have a chance of slowing the rate of decline in the economy.
It seemed that each day’s bad news dwarfed the news of the previous day. In the midst of the economic free-fall the real estate market was among the hardest hit sectors. By January existing home sales had dipped below an annual rate of 4.5 million and it seemed that home prices were falling faster than the MLS listings could be revised. Suddenly it became apparent to everyone that thousands of homeowners were discovering that they owed more on their mortgage than their home would bring on the market.
Even more troubling for the residential market, millions of homeowners were discovering that the Adjustable Rate Mortgage that brought them such attractive interest rates and monthly payments 3–5 years ago, were beginning to roll into sharply higher interest rates and monthly payments they could not afford. The refinancing option they were counting on had also become an impossible dream. As more home mortgages were adjusted upward the number of foreclosures began to flood the market and the overheated market went into free-fall in some parts of the country. The magnitude of the mortgage crisis was widely assumed to be much greater than anything that had hit the real estate market in recent memory.
By the end of 2009, home sales had begun to recover exceeding an annualized rate of over 6 million in October of 2009. While mean and median prices were no longer in free-fall they did not appear to be showing any sign of a return to previous levels. The low point was in January 2009 when the median price was only $164,800. Gradual improvement began in February 2009 and continued through the spring hitting a high of $182,000 in May.
At the beginning of 2010 the market seems to be making progress but there are still more than enough causes for concern. The dark cloud over the market continues to be the flood of foreclosures and short sales that are forcing millions of families from their homes and depressing the real estate market for all homeowners who decide to sell their home. It is hard to envision a robust real estate market until the flood of foreclosures is abated either through loan modification, voluntary short sales, or direct mortgage aid from the government.
Since the mortgage crisis became such a visible symbol of the condition of the economy, the debate has raged as to where the blame should be placed. My view is that regardless of the underlying causes the crisis could not have reached the magnitude that it has without a host of coconspirators or enablers who may not have even been aware of what was happening. However anyone who helped a buyer acquire a home and debt beyond a prudent level for them became a part of the problem. I include in this category real estate agents, mortgage loan officers, buyers who took on debt using exotic mortgage arrangements such as interest only loans or ARMs with a balloon at the end, and policy makers who were overzealous in their efforts to assist high risk borrowers through sub-prime and no-doc loans.
The lesson to be learned from the collapse of the housing market that began in late 2006 and only began to move in a positive direction in late 2009, is not that buying a home is too risky and the prudent course of action is to remain a renter indefinitely. The lesson to be learned is that buying a home is not for amateurs. It is the largest financial decision most families will ever make and carries with it the opportunity for improving the quality of life for every member of the family group.
Check out John's series of books at http://www.home-buying-made-easy.com
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