unit 6 renting vs. owning
TRANSCRIPT
UNIT 6
RENTING VS.
OWNING
ORCUTT ACADEMY HIGH SCHOOL
ACCOUNTING & FINANCE
THE FIRST
STEPS TO
HOME
OWNERSHIP
UNIT 6, LESSON 1
Renting vs. Owning
Are You Ready to Buy?
How Much Can You Borrow?
The Down Payment & Closing Costs
PREVIEW
RENTING VS. OWNING
ADVANTAGES OF
RENTING
• Possibly lower cost
• If you can save 10% or more of your earnings, you are on your way to meeting your financial goals.
• No maintenance costs
• Flexibility
• Financial freedom: spend without obligation
• Psychological freedom: move more easily
• Liquidity
• Wealth not tied up in home
COSTS OF RENTING
• Monthly rent is subject to inflation
• Consider your costs in the long-term
Cost of owning versus renting over 30 years
Year Ownership cost per
month
Rental cost per month
1 $920 $800
5 $980 $940
10 $1,080 $1,140
20 $1,360 $1,690
30 $1,800 $2,500
Comparing the costs of owning a home that costs $160,000
to renting that same home for $800/month.
COSTS OF RENTING
• Owning becomes less expensive in the long run
• As a homeowner, you build equity
ARE YOU READY TO BUY
ASSESSING YOUR
TIMELINE
Wait to buy a home until you plan on being there for at least 3 years (preferably five or more)
PROPERTY MUST
APPRECIATE 15%
TO COVER EXPENSES
BEFORE BUYING, ASK
YOURSELF…
Are you saving enough money monthly to reach your
retirement goals?
BEFORE BUYING, ASK
YOURSELF…
How much do you spend (and want to continue spending) on
fun things such as travel and entertainment?
BEFORE BUYING, ASK
YOURSELF…
How willing are you to budget your expenses in order to meet
your monthly mortgage payments and other housing
expenses?
BEFORE BUYING, ASK
YOURSELF…
How much of your children’s expected college educational
expenses do you want to be able to pay for?
HOW MUCH CAN YOU BORROW
THE EFFECT OF DEBT
Existing debt will lower the amount you are eligible to borrow.
Monthly Debt Payments + Housing Expenses < 38%
of monthly gross income
CALCULATING HOW
MUCH LENDERS WILL
ALLOW YOU TO BORROW
General Rule: You can borrow up to three times
(or two and a half times) your annual income when buying a home.
BUT… HOW MUCH YOU
CAN BORROW DEPENDS
ON INTEREST RATES
Set by the secondary market
EXPENSES
• Mortgage costs
• Inspection expenses
• Moving costs
• Commissions
• Title insurance
WHAT’S THE APPROXIMATE
MAXIMUM YOU CAN BORROW?
When mortgage rates are Multiply your gross income
by this figure
4% 4.6
5% 4.2
6% 3.8
7% 3.5
8% 3.2
9% 2.9
10% 2.7
11% 2.5
MULTIPLIER
The number you multiply by your gross income to determine
how much money you can borrow for a home mortgage;
determined by interest rates.
OR
The number you multiply by your mortgage expressed in
thousands of dollars (divided by 1000) to determine your
monthly mortgage payment
As rates fall, the monthly mortgage payment drops
Lower interest rates make buying real estate more affordable
CALCULATE
What is the maximum amount you can borrow?
1. Annual income $45,870
a) Interest rate 5%
b) Interest rate 11%
2. Annual income $68,900
a) Interest rate 4%
b) Interest rate 8%
3. Annual income $159,650
a) Interest rate 9%
b) Interest rate 6%
DOWN PAYMENT & CLOSING COSTS
THE DOWN PAYMENT
If you put down 20% of the purchase price of the home
• Most favorable terms, including interest rate and closing
costs
• Don’t have to pay mortgage insurance
For a $100,000 home, the down payment would be $20,000
• (100,000)(.2) = $20,000
PMI: PRIVATE
MORTGAGE INSURANCE
• If you put less than 20% down
• Protects lenders if you default on your loan
• Several hundred $ per year
• Varies depending on the percent of the purchase price you
put down
• The higher the down payment, the lower the PMI
• Visit http://www.goodmortgage.com/Calculators/PMI.html
PURCHASE PRICE
Purchase Price = Mortgage Loan + Down Payment
CLOSING COSTS
• In addition to a down payment, you must have cash saved
for closing costs
• Includes escrow fees, inspection fees, title insurance, and
other miscellaneous fees
• On average from 2-3 percent of the price of the home
• Could be anywhere from 1-8% of the price of the home
• Your lender will give you a “Good Faith Estimate”
HELP WITH CLOSING
COSTS
• You can request
• Your seller pay part of the closing costs
• Your lender add part of the closing costs to your mortgage
loan
• Interest rate will go up about .25%
1. How can you determine if you are ready to buy a home?
2. How do lenders decide how much money you can borrow to
purchase a home?
3. What factors should you consider when determining how
much money to save to buy a home?
ESSENTIAL QUESTIONS
WHAT ARE YOU LEARNING? WHY ARE YOU LEARNING IT? HOW WILL YOU USE IT?
TOTAL
HOUSING
COST UNIT 6, LESSON 2
Calculating Mortgage Payment
Taxes: The Cost and the Benefit
Insurance & Maintenance
Calculating Total Housing Cost
PREVIEW
TOTAL HOUSING
COST
1. Mortgage Payment
2. Taxes
• The Cost and the Benefit
3. Insurance
4. Maintenance
CALCULATING MORTGAGE PAYMENT
CALCULATE MORTGAGE
USING MULTIPLIER
Interest Rate 15-year mortgage
Multipliers
30-year mortgage
4% 7.4 4.77
4.5% 7.65 5.07
5% 7.91 5.37
5.5% 8.17 5.68
6% 8.44 6.00
6.5% 8.71 6.32
7% 8.99 6.65
8% 9.56 7.34
9% 10.14 8.05
10% 10.75 8.78
Multiply the multiplier by your mortgage expressed in thousands of dollars (divided by 1000)
EXAMPLE
Skye is taking out a $100,000 30-year mortgage at 6.5%. What
will be her monthly mortgage payment?
The multiplier is 6.32, so
Monthly mortgage payment = 6.32 x 100,000/1,000
= 6.32 x 100
= $632
CALCULATE MORTGAGE
USING FORMULA
M = P [ i(1 + i)n ] / [ (1 + i)n - 1]
M = The monthly payment
P = The principal, or the amount of money being borrowed
i = The interest for each compounding period, or the interest
per month for a standard mortgage
n = The number of compounding periods, or the number of
months for a standard mortgage
TAXES: THE COST AND THE BENEFIT
TAXES: THE COST
• Homeowners pay property tax, which helps support local
governments.
• Based on the assessed value of your home
• Land + Improvements
• May be higher or lower than the purchase price of the
home
TAX RATES
• Set by the county
• Usually about 1-2%
• Average property tax rates by state
• Ex: Santa Barbara County
CALCULATING
TAX COSTS
The value of a home in Greenwood County is $285,000.
Property taxes in Greenwood are 1.25%. What is the monthly
property tax bill for the home?
Annual property tax bill: (285,000)(.0125) = $3562.50
Monthly property tax bill: (3562.50)/12 = $296.88
TAXES: THE BENEFIT
• You can deduct
• Interest paid to buy, build, or improve your home
• Interest paid on a home equity loan
• Property taxes
• You can deduct a second home
• Learn more about Tax Deductions on Mortgage Interest
CALCULATING THE TAX
BENEFIT OF OWNING
TAX BENEFIT =
(Mortgage Payment + Property Taxes) (Tax Bracket)
EXAMPLE
Tyler’s gross annual income is $83,000. His mortgage payment is $1,200/month and he pays $260/month in property taxes. What is his tax benefit from owning.
(1200+260)(.25) = $365
Tax Brackets 2012 (Estimated) Single (Est) Married Filing Jointly (Est) Head of Household
10% Bracket $0 – $8,700 $0 – $17,400 $0 – $12,400
15% Bracket $8,700 – $35,350 $17,400 – $70,700 $12,400 – $47,350
25% Bracket $35,350 – $85,650 $70,700 – $142,700 $47,350 – $122,300
28% Bracket $85,650 – $178,650 $142,700 – $217,450 $122,300 – $198,050
33% Bracket $178,650 – $388,350 $217,450 – $388,350 $198,050 – $388,350
35% Bracket $388,350+ $388,350+ $388,350+
HOMEOWNER’S INSURANCE
HOMEOWNER’S
INSURANCE
• On average, between $45 and $75/month
• Varies depending on
• Home’s value
• Location
• Homeowner’s demographics
• Type and amount of insurance
LEARN MORE…
Tips on homeowner’s insurance
MAINTENANCE
MAINTENANCE
About 1% of the home’s value on average
Example:
A home with a value of $475,000
Annual maintenance = (475,000)(.01) = $4,750
Monthly maintenance = 4,750/12 = $395.83
MAINTENANCE
CHECKLIST
National Healthy Homes Training Center Checklist
TOTAL HOUSING COST
TOTAL
HOUSING COST
PUTTING THE PIECES TOGETHER!
Total Housing Cost =
(Mortgage Payment + Property Tax + Insurance + Maintenance) – (Tax Benefit)
EXAMPLE 1
Taylor is an actor living in Los Angeles, California where the property tax is 1.25%. Her gross annual income is $71,500 and the value of her property is $367,000. Her monthly mortgage payment is $1,200 and she pays $40/month for insurance. Estimate her total housing costs.
Total Housing Cost =
(Mortgage Payment + Property Taxes + Insurance + Maintenance) – (Tax Benefit)
Mortgage Payment = $1,200
Property Taxes = (367,000)(.0125)/12 = $382.29
Insurance = $40
Maintenance = (367,000)(.01)/12 = $305.83
Tax Benefit = (Mortgage Payment + Property Taxes)(Tax Bracket)
(1200 + 382.29)(.25) = 395. 57
Total Cost = 1200 + 382.29 + 40 + 305.83 - 395.57 = $1532.55
1. To calculate the mortgage payment, what three pieces of
information do you need to know?
2. How do taxes affect the overall total cost?
3. What components make up the total monthly housing
cost?
ESSENTIAL QUESTIONS
WHAT ARE YOU LEARNING? WHY ARE YOU LEARNING IT? HOW WILL YOU USE IT?
FINANCING
YOUR HOME
UNIT 6, LESSON 3
Adjustable vs. Fixed-Rate
30-year vs. 15-year
Finding a Lender
Points & Interest Rates
PREVIEW
ADJUSTABLE-RATE VS. FIXED-RATE
30-YEAR VS 15-YEAR
FIXED-RATE MORTGAGES
Interest rates never change
Monthly mortgage payment does not change
No uncertainty
BUT… if interest rates fall (and you can’t refinance), you are
stuck with your higher-cost mortgage
ADJUSTABLE RATE
MORTGAGES
• Interest rate varies over time
• Can change yearly, or even monthly
• Most often, every 6 or 12 months
• Monthly mortgage payment fluctuates
• Advantage: Potential interest savings
• Lower rates for the first few years
• After that, your rate depends on overall trends
CHOOSING BETWEEN
FIXED AND ADJUSTABLE
• Consider your ability to take on financial risk
• Reliability of income
• Job security
• Emergency savings
• Future expenses
• Stress level
• If you can’t afford the highest allowed payment on an
adjustable-rate mortgage, don’t take it.
15-YEAR VS. 30-YEAR
15-year 30-year
Pay off faster, Build equity faster Takes longer to pay off
Higher payments Lower payments
Lower interest rate (about ½
percent)
Higher interest rate
If you don’t plan on investing, it is
better to pay off your mortgage
faster
Alternative investing opportunities
CHOOSING BETWEEN
FIXED AND ADJUSTABLE
• Consider how long you plan to keep the mortgage
• Adjustable rate mortgages have lower interest rates for the
first few years.
• Wise if you plan on keeping your mortgage less than 5-7
FINDING A LENDER
SHOPPING FOR A
LENDER ON YOUR OWN
• Large banks usually don’t offer the best rates
• Check out smaller lending institutions
• Using a local bank can sometimes be a plus. Their staff
generally understand the specifics of local properties
• Find mortgage companies in cities across the country
HIRING A MORTGAGE
BROKER
• Brokers
• Submit the home buyer's application to one or more
lenders
• Work with the chosen lender until the loan closes
• Can often find a lender who will make loans that a bank
refuses
• May be necessary for problem credit
MORTGAGE BROKERS
Get paid a percentage of the loan amount
• typically 0.5-1%
Ask your mortgage broker what his cut is
The broker should shop among lenders to get you a good deal
Help you fill out documents lenders demand before giving you a
loan
BEWARE
• Some brokers place their business with the same lenders
all the time, those usually don’t offer the best rates
• You can shop on your own, so you can compare with what
your broker tells you
• Thoroughly check a broker’s references before you do
business with them
• Make sure you ask who the lender is—most brokers refuse
to reveal this info until you pay a certain amount to cover
the appraisal and credit report
POINTS AND INTEREST RATES
POINTS
• The initial fee charged by the lender, with each point being
equal to 1% of the amount of the loan.
THE SEESAW EFFECT
• As points go up, the interest rate goes down. As points
go down, the interest rate goes up.
• It is important to consider both the points and the interest
rate when comparing two mortgage loans.
COMPARING
MORTGAGES
EXAMPLE: Compare the two loans. Identify when the loans will have the same cost and which loan will have a lower cost after the identified time period.
Loan #1: 3% interest rate, 2 points
Loan #2: 4% interest rate, 1 point
𝑫𝒊𝒇𝒇𝒆𝒓𝒆𝒏𝒄𝒆 𝒊𝒏 𝒑𝒐𝒊𝒏𝒕𝒔
𝑫𝒊𝒇𝒇𝒆𝒓𝒆𝒏𝒄𝒆 𝒊𝒏 𝒓𝒂𝒕𝒆𝒔 =
𝟐−𝟏
𝟒−𝟑 =
𝟏
𝟏 = 𝟏
This formula tells you when the loans will have the same cost. After the given time period, the loan with the lower interest rate will have a lower cost, so…
After one year, Loan #1 will have a lower cost.
GETTING THE BEST RATE
1. Why is it financially wise to make a down payment of at least
20 percent of the purchase price of the property?
2. Why would you choose a fixed-rate loan? An adjustable rate
loan?
3. Why should you consider both the interest rate and the
points of a loan when shopping for a loan?
ESSENTIAL QUESTIONS
WHAT ARE YOU LEARNING? WHY ARE YOU LEARNING IT? HOW WILL YOU USE IT?