Which is best: renting or owning?

Q:  June, do you think it is better to rent or own?  I have read several articles on-line stating your money is better off in a 401k or some other portfolio than in real estate/owning a home.

-Don, Md.

A: The old saying “timing is everything” is especially relevant to your question of renting or owning.  There are definitely points in all of our lives where renting makes all the sense in the world.  To name a few, these include times when:

• employment is uncertain or job security is lacking
• you will be in a particular location only for a few years
• your proverbial ducks are not in a row (for example, when a mortgage payment doesn’t fit into your budget, you don’t have an emergency reserve, or you have no down payment or “move-in” fund)

On the other hand, owning a home is the original American dream!  In the right circumstances buying your home can allow you to build equity over time, potentially benefit from tax deductions, and ultimately know that the roof over your head is not contingent on anyone else’s whims or rent demands.  So, do I think you should use retirement vehicles like a 401(k) to build a robust nest egg for retirement—yes!!  Do I think owning a home is a good thing under the right circumstances—yes!!  The bottom line is that regardless of where you live, you should be saving for your financial security and retirement.  The decision to buy a home should be based on your own specific financial situation and outlook.  If the time is right, there’s more than enough room on your plate for a 401(k) and a home! 

Income is ticket to buying a home

Q: Is it mandatory for me to have a job to be able to buy a house. I am coming out of the military and I’ll be going to college. The military will be paying me disability and GI Bill money. Can I still get a house even though with full time college and a family I won’t have time to get a job?

-Vitaliy, Moscow, Nev.

A: Thanks for your service and sacrifice. Not everyone who buys a house has a job. However, if you want to borrow money to buy a new home, you’ll definitely need enough income to be able to make the monthly payment. So, you can certainly check with a lender or two and determine if and how much they might be willing to pre-approve you for based on your disability income. My inclination is that now might be the ideal time for you to rent. This would probably require less prescreening and perhaps alleviate some financial pressure while you’re working hard to get your degree. It will also allow you some flexibility to go where your degree will take you after you graduate. To prepare yourself for that significant purchase, be sure to carefully review your credit report to ensure it’s in ship shape. Also continue to pay bills on time (that solid payment history is crucial!) and keep credit card balances as close to zero as possible! Good luck and enjoy school!

Things to think about when buying a home

Q: I want to purchase a house in South Carolina and want to know where I should start.  I am a first time buyer, and I’m currently living in and working in Germany.  I am retired US Army. Thanks.

-Cliff

A: Retired Army, hooah and thanks for your service.  Not to put the cart before the horse, but I will mention that if it fits your timeline you’ll want to purchase your new house before December 1, 2009.  If you do that, you’ll be eligible for a 10% tax credit (up to $8,000) on the purchase.  So, any home purchase greater than $80,000 may result in $8,000 back in your pocket!  If you’re single, your modified adjusted gross income can not exceed $75,000 ($150,000 for married filing jointly) to receive the full credit.  That’s a pretty good incentive. 

However, your question as to where you should start is right on target.  A budget exercise including a detailed accounting of what will be coming in (military retirement, employment income, investment income, etc.) and going out (utilities, household expenses, food, clothing, etc.) is an excellent first step.  How much house can you afford?  Being fairly conservative, I would suggest that your payment (principal, interest, taxes, and insurance = PITI) should be less than 28% of your gross monthly income.  For example, if you’ll have $5,000 of income from all sources, you should target a maximum payment (PITI) of $1,400.  In today’s environment, this would equate to an absolute ceiling of around $225,000 for your new home.  Think hard about committing that much income to a house payment for 30 years.

The next step is to make sure you have a clean credit report.  It’s not uncommon to find errors on a report so review it closely and dispute anything that doesn’t belong to you.  If you’ve had an “oops” in the past, like an unpaid bill, make good on it now because a late payment – even if it’s really late – is better than a “charge off.”  You can get a free credit report every year from annualcreditreport.com.  Considering you’re overseas right now, you may have to give them a call to get yours.  Your score will cost an extra $8 or so.  And that number makes all the difference in the interest rate you get.  Even a quarter of a percent too much makes an enormous difference on the amount of interest you pay over the life of the loan.  It’s very important.

After determining what you can afford, you’ll want to get pre-approved for this amount through your lender.  Caution: your calculation of what you can afford should be your guideline, not what the lender is willing to lend!  There is a difference between qualifying for and affording a mortgage. Discuss using a Veterans Affairs loan with your lender.  A VA loan could certainly minimize the out-of-pocket costs to move into your new home as no down payment is required.  Now you’re ready to begin the hunt for your house.  In addition to helping you with the details, a quality realtor should be able to help you sort through neighborhoods and available properties.  This is especially important if you don’t know the area well.  Remember, real estate is a long term proposition, so do your homework and shop smart.  In the meantime, set aside funds in a savings or money market account so you’re ready for all of those expenses that inevitably come with moving into a new home.  Your emergency fund of 3-6 months of expenses should be well established before purchasing a home.  Good luck and welcome to the American Dream.

A Homeowner's Dilemma

Q: We currently own a home in Florida that is valued at $217,000. We owe $136,000 on the mortgage to include a $30,000 home equity loan that we used to improve the home. We paid $142,000 for it and have only lived in the home for one year in 2002. We bought it with the hopes of someday living there but it seems as if it will not happen. We have rented it off and on and have not until now been able to rent it for what we pay for the mortgage which is $1056 a month on a 30-year-fixed VA with a 7.5% interest rate. The taxes on the home are $3,500 a year. My question is: should we try to sell the home now since we probably will not be living in it or should we keep it as an investment and pay it off sooner? We do not have any debt other than the mortgage and with our son in college and another one headed to college; we would like to get rid of the payment one way or the other. Thank you.

--Melisa

A: I’m not sure about the area where your home is located, but a lot of the folks I’ve talked to in Florida have told me this is an awful time to be selling real estate. That said this may be a great time to explore your options with respect to refinancing. Based on the numbers you provided, it appears you may be able to refinance both of your loans in a new 30-year mortgage and reduce your monthly outflows. This may make the property all the more attractive as a rental and if and when the real estate market turns, you’ll be in position to make a decision to sell or hold on your own terms.

VA Gets High Tech

Q:  My husband served in the army as an E-4, and is now on inactive duty.  We sent his paperwork in for VA loan eligibility over a month ago and still have not received anything in return.  Does the eligibility process usually take a while?  Is there a phone number that we could call to make sure they received his paperwork?  Also we are looking into buying a business with a home attached.  The home will be our primary residence.   Can we use a VA loan to purchase the home?  Would it be better not to?  Thank you for your time.

--Emily

A:  When I applied for my Veterans Affairs Eligibility Certificate, I did it in person.  I just didn’t want to take any chances on my DD-214 getting lost or caught up in the sometimes slow wheels of bureaucracy. I received it the same day!  But times have changed – and perhaps for the better.

Check out what I pulled from the VA website: “ACE (automated certificate of eligibility): It may be possible to obtain a Certificate of Eligibility from your lender. Most lenders have access to the ACE system. This Internet based application can establish eligibility and issue an online Certificate of Eligibility in a matter of seconds. Not all cases can be processed through ACE - only those for which VA has sufficient data in our records. However, veterans are encouraged to ask their lenders about this method of obtaining a certificate.”
    
So all may not be lost.  A VA loan may be a great option for you to purchase your home and I see no issue with it being attached to your business.  But you might want to ask them!  I would recommend you contact the VA eligibility center directly at 1-800-2444-6711.  Bottom line is that it shouldn’t take too long.  Good luck with both your new home and business.

To Refi or Not to Refi?

Q: When should I refinance a mortgage? My current rate is 6.374%. Should I wait until the rates lower to 0.5%? 1% 1.5%?

-Paul

A:  You already have a decent interest rate, but thanks for looking at ways to save money! The rule of thumb to answer the question of when refinancing makes sense is if the new rate is a minimum of 1% lower and if you plan to remain in the house for at least a couple of years.  Otherwise, it typically will not make sense.  So, prior to refinancing you need to have answers regarding how much it’s going to cost, how long you’ll be in the house, and how much will you save on a monthly basis. Be advised that closing costs on a refinance can range from a few hundred to several thousand dollars.  As you know, your lower rate will result in a reduced monthly payment. How long you will own the property is key because the longer you own it, the more likely you are to recoup costs and your savings from the refinance will add up. A simple calculation is to divide the closing costs (hopefully paid out of pocket!) by the monthly savings to determine your “breakeven” point (in number of months). Answer these questions and you’ll have the answer to yours!

Time to Fix Your ARM?

Q: I have and adjustable rate mortgage with 12 months left at my current rate. Should I refinance now, and if so who should refinance with? Thank you.

—Ronald

A: Your question is very timely! I have to make the assumption that you plan to stay in your home for awhile. So in that case, yes, explore your refinance options — and soon. Interest rates are attractive right now and without a crystal ball, I can't tell whether or not rates may be higher in the next 12 months. Do not bet on the future, rather take the rate you can get today. I like fixed rate mortgages because you can budget for them now and for the life of the mortgage. As with any financial product or service, it pays to shop around. Start with your current lender to get a point of comparison from which to work. Don't forget to check both the rates and closing costs, so you get an apples-to-apples comparison.

Fear and Loathing in Las Vegas

Q: We moved from Las Vegas about 10 months ago. After one year on the market, we finally got an offer on our home we were selling due to our military PCS. However, when we requested the pay-off amount, we were hit with over $16,000 in prepayment penalties. We have been with Countrywide for three years and pay our bills on time. Is there any way to have these fees dropped since we are paying the balance of the loan? Do you know of any military relief or assistance programs for which we might be eligible? We are not and have not been in foreclosure at any time during our ownership. Thanks.

-Vickie, Navarre, Fla.

A: Wow, talk about getting bushwhacked! I would call your mortgage company directly and see if you can negotiate a better deal. Mortgage providers might feel some pressure to do something for you considering all the negative news they've garnered and the current real estate and mortgage crisis. Hey, you can't get a "no" without asking. Beyond that, I hope others will learn two very important lessons from your situation. First, real estate is a long-term investment — don't spend the dime if you don't have the time. Second, always read the fine print! I can't think of a situation where a loan with a prepayment penalty is attractive.

Avoiding PMI

Q: We have about $90,000 in a high yield money market account from the sale of our first home.  We are in the process of buying a new home for approximately $400,000, and we have a dilemma. I want to put 20% down on our new home in order to avoid PMI fees, but that would use up $80,000 of our savings. My husband wants to put $20,000 down, pay the PMI fees on the mortgage, and keep the rest of money in the money market account.
Can you please help us decide on the best approach?

-Sonia & Victor,  Columbia, MD

A: First, I congratulate you on setting aside the funds required for such a substantial down-payment and earning money market interest in the meantime! You’re making some smart financial decisions.

I also like the idea of avoiding Primary Mortgage Insurance (PMI) as it affords you no protection (this insurance protects the lender) and is expensive – a waste of money in my view. Since you sound so financially responsible, think about this idea: instead of making the 20% down payment needed to eliminate PMI on your primary mortgage, you could actually put down 10 percent, using what is called an 80/10/10 loan strategy. The “80” represents the primary mortgage (in your case it would be for $320,000). The “10” stands for the second mortgage ($40,000 for you) which typically has tax deductible interest, a shorter term and a higher interest rate. The last “10” represents the actual cash down payment. Thus, you would have two loans, a lower down payment, no PMI and a nice cash cushion of about $50,000. Everybody’s happy! Note – I generally recommend keeping an emergency reserve fund of around three to six months of living expenses, so consider whether $50,000 is too much. In addition, I would definitely recommend aggressively paying down the 10 percent equity loan because of the higher interest rate. I hope this helps!

Benefits of HELOC

Q: I'm 65 and retired.  I have small house mortgage in the form of a HELOC with an open interest rate.  I want to either go with a fixed-rate mortgage or a fixed-rate HELOC - there is such a thing, right? I need to keep the payment within a certain range, but I'd also like to do some much-needed home improvements (e.g. paint the kitchen and bathroom cupboards, replace flooring, paint and wallpaper, etc.), so would like to take out more money to cover this cost. While I do have some savings I could access, I would really prefer to keep them there to maintain a small cushion in case my alimony and pension come to an end, should my ex-husband pass on.  I am wondering which would be the best option: choosing a mortgage (30-year or 15-year) or opening another HELOC with a fixed rate.

- Linda, Phoenix, AZ

A: Home maintenance is an expense that a lot of folks don’t factor into retirement plans, but as you’re finding out, it is expensive. You have mentioned a number of “tools” available to get the job done! It’s nice to have options.

You’re right; a home equity line of credit (HELOC) usually has a variable interest rate, but they also have flexible repayment options. They are convenient because you can write checks as needed. In other words, you don’t have to use the entire amount for which you are approved and interest is only charged on the amount you’ve actually used. An important factor to consider is that many banks offer the opportunity to fix or lock-in the interest rate on all or a portion of the outstanding line balance for a period of time to allow for better budgeting and guard against rising rates. This period of time usually does not exceed the maturity date of the line of credit.

A home equity loan, on the other hand, will provide you with a fixed interest rate, amortized payments and an up-front lump sum of money.  Typically, they can be set-up for very little or no cost. On the downside, you have to borrow all the money at once and it can usually be amortized over only 15 - 25 years. If you refinance your current mortgage, you may be able to amortize it over 30 years. A 30-year mortgage would give you a lower monthly payment, but would require more money in that closing costs and fees would be higher.

Any of the home equity options will work well for you! Additionally, you can save money by applying online, because some banks knock a quarter percent off your interest rate if you do. As a retiree, Linda, you need to figure out what monthly payment works best in your budget and apply for the lowest overall cost alternative – which may not necessarily be the lowest payment.