April 28, 2013 -- intro:
At this time, when housing prices are starting to rebound and interest rates are still very low, a lot of people are saying that you should buy a house in 2013. But is homeownership the right choice for your finances? The answer of course, is "it depends." However, for many of us there is a clear answer based on where we live, how much money we have saved up, and what our future plans are.
The "Rent vs. Own" debate has been raging for decades, and will no doubt continue for many decades to come. Here are some important factors you should consider to help determine whether renting or owning a home is the right decision for you.
quicklist: title: Basic Market Trends text:
Have you ever heard the saying that the three most important criteria in setting the value of a home are "location, location, location." Well, that remains true today, but they might want to add: "timing, timing, timing."
Anyone who watched the gut-wrenching rise and fall of the housing market during the past 10 years can readily attest to the fact that timing has a lot to do with whether a house purchase becomes a good investment or metaphorical anchor tied to your finances.
Just looking at a graph of the Case-Shiller index shows how rapidly home values can increase and decline. The line on the graph looks like a roller coaster -- it goes up and up and up and then drops back down, all in the span of a few years. You want to avoid buying a house at the peak of a housing bubble, obviously!
But how to avoid it? To help you navigate these market variations, I'd recommend using something called the "price-to-rent" ratio. This is a formula that takes into account the price of renting versus the cost of buying in your area (with many factors included) and gives you a sense of whether the market dynamics favor buying or renting. If you are trying to evaluate this, look online for some handy calculators/charts/graphs that show you the price-to-rent ratio for your city.
Also remember that interest rates for mortgages fluctuate over time and it's always better to lock in a low interest rate if you can.
quicklist: title:Your Financial Picture text:
One of the main considerations you have to make is this: does your current financial picture put you in a strong position for home ownership? If not, then buying a house will not be a good idea no matter what the market trends indicate.
To evaluate your finances and see if you're prepared for homeownership, you'll need to sit down and look at all your financial accounts as well as your income and expectation of future earnings (not to mention job security).
First, look at any debt you have and calculate how long it would take you to pay it off. If you have a lot of consumer debt and especially if you're struggling to make your monthly payments, then this may not be a good time for you to buy. After all, homeownership is a big commitment and if things go wrong you can end up on the hook for a big loan. You also won't be able to secure a good interest rate if your debt to income ratio is high.
With student loan debt -- something Americans of all ages are dealing with right now -- you can certainly buy a house as long as the monthly payments will not overwhelm you.
Your job security is also a very important factor because, as many people found out during the recession, losing a job while paying a mortgage can be extremely stressful and unpleasant. You can wind up being tied to a location that doesn't have good job prospects, burning through your savings, and possibly losing your house (and equity). So think carefully about any potential threats to your job and career before making the leap into homeownership.
quicklist: title:How Much Do You Have Saved Up? text:
Assuming that you're not worried about debt paydown or losing your job, then the most important factor to consider is how much savings you have. Many home purchases require 10 or 20 percent as a down payment on a mortgage, and while there are programs for first-time homebuyers and other ways to lower your down payment to 5 percent (or even 3 percent in some cases), that will increase your monthly payment because it will mean your total loan amount will be larger.
The right down payment amount and home loan amount for you will depend on the factors mentioned above, but in general it's better to have a lot saved up before you apply for a mortgage. If you have enough for a 20 percent down payment, you can feel more confident because (A) you're more likely to be approved for a loan and (B) your monthly mortgage payments will be lower. That can make all the difference in your foray into buying a home.
quicklist: title:What Are Your Future Plans? text:
One of the things you always hear people talk about is that it doesn't make sense to buy a house if you plan to move in the next five years -- and this is absolutely true. Why? Because buying a house requires lots of fees and "transaction costs" -- these costs are unavoidable and can total up to 5 percent of the cost of the house or more.
That means if you buy a house and then quickly sell it again you'll have to pay both the costs of buying and the costs of selling (usually a 6 percent commission for the real estate agent who sells your property) in a short time period. And you won't live in the house long enough to enjoy the financial benefits of homeownership, such as appreciation in your home's value.
It still depends on the individual situation, of course, but the general rule is to avoid buying if you expect you'll need or want to move anytime soon.
Ultimately, if you consider all the factors and determine how homeownership can affect your credit score, you will make a good choice.