Personal Finance Chapter 7 - Selecting and Financing Housing

Renting a House

-Easy to move -Fewer responsibilities for maintenance -Minimal financial commitment -No tax benefits -Limitations regarding remodeling -Restrictions regarding pets, other activities

Conventional 30-Year Mortgage

-Fixed monthly payments for 30 years provide certainty of principal and interest payments -Higher initial rates than adjustables

Lease

-A legal document that defines the conditions of a rental agreement

Appraisal

An estimate of the current value of the property, can provide a good indication of the price you should set

Escrow Account

-Money, usually deposited with the lending institution, for the payment of property taxes and home insurance

Deed

-The document that transfers ownership of property from one party to another -With a warranty deed, the seller guarantees the title is good. This document certifies that the seller is the true owner of the property, there are no claims against the title, and the seller has the right to sell the property

What a Lease Presents

-A description of the property, including the address -The name and address of the owner/landlord (the lessor) -The name of the tenant (the lessee) -The effective date of the lease, and the length of the lease -The amount of the security deposit, and amount and due date of the monthly rent -The date and amount due of charges for late rent payments -A list of the utilities, appliances, furniture, or other facilities that are included in the rental amount -Restrictions regarding certain activities (pets, remodeling); tenant's right to sublet -Charges for damages or for moving out of the rental unit later (or earlier) than the lease expiration date -The conditions under which the landlord may enter the apartment -You can negotiate a lower rent or a reduced security deposit

Reverse Mortgages

-Also called home equity conversion mortgages -Provide homeowners who are 62 or older with tax-free income in the form of a loan that is paid back (with interest) when the home is sold or the homeowner dies

Adjustable-Rate Mortgage (ARM)

-Also referred to as a flexible-rate mortgage or a variable-rate mortgage -Has an interest rate that increases or decreases during the life of the loan -ARMs usually have a lower initial interest rate than fixed-rate mortgages; however, the borrower, not the lender, bears the risk of future interest rate increases -When evaluating ARMs: 1. Determine the frequency of and restrictions on allowed changes in interest rates 2. Consider the frequency of and restrictions on changes in the monthly payment 3. Investigate the possibility that the loan will be extended due to negative amortization 4. Find out what index is used to set the mortgage interest rate

Disadvantages of Renting

-Renters do not enjoy the financial advantages of homeowners -Tenants cannot take tax deductions for mortgage interest and property taxes or benefit from the increased real estate value -Renters are generally limited in the types of activities they can pursue in their place of residence -Noise from a stereo system or parties may be monitored closely -Tenants are often subject to restrictions regarding pets and decorating

Adjustable-Rate Mortgage (ARM) - Payment Changes on 1-, 3-, 5-, 7- or 10-Year Schedules

-Lower initial rates than fixed-rate loans, particularly on the 1-year adjustable. Offers possibility of future rate and payment decreases. Loans with rate "caps" may protect borrowers against increases in rates -Shifts far greater interest rate risk onto borrowers than fixed-rate loans. May push up monthly payments in future years

Interest-Only Mortgage

-Lower payments; more easily affordable -No decrease in amount owed; no building equity unless home value increases; usually must convert to a higher fixed-rate mortgage after 10 years -Allows a home buyer to have lower payments for the first few years of the loan. During that time, none of the mortgage payment goes toward the loan amount. Once the initial period ends, the mortgage adjusts to be interest-only at the new payment rate. Or a borrower may obtain a different type of mortgage to start building equity

Buy-Down

-An interest rate subsidy from a home builder, a real estate developer, or the borrower that reduces the mortgage payments during the first few years of the loan -This assistance is intended to stimulate sales among home buyers who cannot afford conventional financing -After the buy-down period, the mortgage payments increase to the level that would have existed without the financial assistance

Fixed-Rate, Fixed-Payment Mortgages

-The conventional mortgage usually has equal payments over 15, 20, or 30 years based on a fixed interest rate -Mortgage payments are set to allow amortization of the loan; that is, the balance owed is reduced with each payment -Since the amount borrowed is large, the payments made during the early years of the mortgage are applied mainly to interest, with only small reductions in the loan principal -As the amount owed declines, the monthly payments have an increasing impact of the loan balance -Near the end of the mortgage term, almost all of each payment is applied to the balance

Mortgage

-A long-term on a specific piece of property such as a home or other real estate -Payments on a mortgage are usually made over 10, 15, 20, 25, or 30 years -Applying for a mortgage involves 3 main phases: 1. You complete the mortgage application and meet with the lender to present evidence of employment, income, ownership of assets, and amounts of existing debts 2. The lender obtains a credit report and verifies your application and financial status 3. The mortgage is either approved or denied, with the decision based on your financial history and an evaluation of the home you want to buy -The major factors that affect the affordability of your mortgage are your income, other debts, the amount available for a down payment, the length of the loan, and current mortgage rates. The results of this calculation are (a) the monthly mortgage payment you can afford, (b) the mortgage amount you can afford, and (c) the home purchase price you can afford -The required down payment and the points charged will affect the interest rate. Points are prepaid interest charged by the lender. Each discount point is equal to 1% of the loan amount and should be viewed as a premium you pay for obtaining a lower mortgage rate

The Home-Buying Process - Step 5: Close the Purchase Transaction

-Before finalizing the transaction, a walk-through allows you to inspect the condition of the home -The closing is a meeting of the buyer, seller, and lender of funds, or representatives of each party, to complete the transaction -Documents are signed, last-minute details are settled, and appropriate amounts are paid -A number of expenses are incurred at the closing -The closing costs, also referred to as settlement costs, are the fees and charges paid when a real estate transaction is completed

Housing Rental Activities - Step 4: At the End of the Lease

-Clean the apartment; leave it in the same condition as when you moved in -Tell landlord where to send your security deposit -Require that any deductions from your security deposit be documented

The Home-Buying Process - Step 1: Determine Home Ownership Needs

-Consider the benefits and drawbacks of this major financial commitment -One financial benefit is the deductibility of mortgage interest and real estate tax payments, reducing federal income taxes -A disadvantage of home ownership is financial uncertainty. Obtaining money for a down payment and securing mortgage financing may be problems -The homeowner is responsible for maintenance and costs of repainting, repairs, and home improvements -The amount you spend on housing is affected by funds available for a down payment, your income, and your current living expenses. Other factors you should consider are current mortgage rates, the potential future value of the property and your ability to make monthly payments -To determine how much you can afford to spend on a home, have a loan officer at a mortgage company or other financial institution prequalify you

The Home-Buying Process - Step 4: Obtain Financing

-Financing a home purchase requires obtaining a mortgage, having an awareness of types of mortgages, and settling the real estate transaction -The amount of cash available for a down payment affects the size of the mortgage required. If you can make a large down payment, such as 20% or more, you will likely obtain a mortgage relatively easily -Personal savings, sales of investments or other assets, and assistance from relatives are common down payment sources -Private mortgage insurance (PMI) is usually required if the down payment is less than 20%. This protects the lender from financial loss due to default -The Homeowners Protection Act requires that a PMI policy be terminated automatically when a homeowner's equity reaches 22% of the property value at the time the mortgage was executed. Homeowners can request termination earlier if they can provide proof that the equity in the home has grown to 22% of the current market value -With a credit score of 620 a person can obtain home financing. The higher the credit score the lower the mortgage rate, given the same loan amount and down payment

Title Insurane

-Has two phases -First, the title company defines the boundaries of the property being purchased and conducts a search to determine whether the property is free of claims such as unpaid real estate taxes -Second, during the mortgage term, the title company protects the owner and the lender against financial loss resulting from future defects in the title and from other unforeseen property claims not excluded by the policy

Housing Rental Activities - Step 3: Living in Rental Property

-Keep all facilities in good condition -Contact the owners regarding needed repairs -Respect the rights of others regarding noise -Obtain renter's insurance for personal belongings and liability situations

Payment Cap

-Keeps the payments on an adjustable-rate mortgage at a given level or limits the amount to which those payments can rise -When mortgage payments do not rise but interest rates do, the amount owed can increase in months in which the mortgage payment does not cover the interest owed. This increased loan balance, called negative amortization, means the amount of the home equity is decreasing instead of increasing

The Home-Buying Process - Step 2: Find and Evaluate a Home

-Location is considered the most important factor when buying a home. Be aware of zoning laws, restrictions on how the property in an area can be used -Real estate agents' main services include (1) showing you homes to meet your needs; (2) presenting your offer to the seller based on a market analysis; (3) negotiating a settlement price; (4) assisting you in obtaining financing; and (5) representing you at the closing. They may also recommend lawyers, insurance agents, home inspectors, and mortgage companies to serve your needs -Real estate agents' can either work for the buyer, seller, or both (dual agent) -An evaluation by a trained home inspector can minimize future problems. Some states, cities, and lenders require inspection documents for pests, radon, or mold. The mortgage company will usually conduct an appraisal, which is not a home inspection but an assessment of the market value of the property

FHA/VA Fixed-Rate Mortgage (30-Year and 15-Year)

-Low down payment requirements and may be assumable with no prepayment penalties -May require additional processing time

Conventional 15- or 20-Year Mortgage

-Lower rate than 30-year fixed; faster equity buildup and quicker payoff of loan -Higher monthly payments

Second Mortgage

-More commonly called a home equity loan -Allows a homeowner to borrow on the paid-up value of the property -Lending institutions offer a variety of home equity loans, including a line of credit program that allows the borrower to obtain additional funds -This revolving credit plan can keep you continually in debt as you request new cash advances -Allows you to deduct the interest on consumer purchases on your federal income tax return

Buying a House

-Pride of ownership -Financial benefits -Lifestyle flexibility -Financial commitment -Higher living expenses than renting -Limited mobility

Advantages of Renting

-Renting offers mobility when a location change is necessary or desirable -Renters have fewer responsibilities than homeowners since they do not have to be concerned with maintenance and repairs -Taking possession of a rental unit is less expensive than buying a home

Rate Cap

-Restricts the amount by which the interest rate can increase or decrease during the ARM term -This limit prevents the borrower from having to pay an interest rate significantly higher than the one in the original agreement

Housing Rental Activities - Step 1: The Search

-Select an area and rental amount -Compare costs and facilities of comparable units -Talk to current and past residents

The Home-Buying Process - Step 3: Price the Property

-The amount you offer will be affected by recent selling prices in the area, current demand for housing, the time the home has been on the market, the owner's need to sell, financing options, and features and condition of the home -Your offer will be in the form of a purchase agreement, or contract, which is your legal offer to purchase the home -If your initial offer is accepted, you have a valid contract. If your offer is rejected, you have several options. A counteroffer from the owner indicates a willingness to negotiate a price -As part of the offer, the buyer must present earnest money, a portion of the purchase price deposited as evidence of good faith. At the closing of the home purchase, the earnest money is applied toward the down payment. This money is returned of the sale cannot be completed due to circumstances beyond the buyer's control -Home purchase agreements may contain a contingency clause, stating the agreement is binding only is a certain event occurs

Preparing Your Home for Selling

-The effective presentation of your home can result in a fast and financially favorable sale -Real estate salespeople recommend that you make needed repairs and paint worn exterior and interior areas

Security Deposit

-Usually one month's rent -This money is held by the landlord to cover the cost of any damages -Some state and local laws may require that landlords pay interest on a security deposit if they own buildings with a certain number of rental units -After you vacate the rental unit, your security deposit should be refunded within a reasonable time -If money is deducted, you have the right to an itemized list of repair costs -Most times, utilities are not included with rent

Housing Rental Activities - Step 2: Before Signing a Lease

-Verify lease starting date, costs, and facilities -Talk to a lawyer about unclear aspects of the lease -Note in writing, signed by the owner, the condition of the rental unit -If two names are on the lease, one person can be held responsible for the full rent

Determining the Selling Price

-You risk not selling it immediately if the price is too high, and you may not get a fair amount if the price is too low -An asking price is influenced by recent selling prices of comparable homes in your area, demand in the housing market, and current mortgage rates -The home improvements you have made may or may not increase the selling price

Types of Housing Available

1. Single-family dwellings include previously owned houses, new houses, and custom-built houses 2. Multiunit dwellings are dwellings with more than one living unit. A duplex is a building with separate homes. A townhouse may contain 2, 4, or 6 living units 3. Condominiums are individually owned housing units in a building. Ownership does not include common areas, such as hallways, outside grounds, and recreational facilities. These areas are owned by the condominium association, which oversees the management and operation. Condominium owners pay a monthly fee for maintenance, repairs, improvements, and insurance of the building and common areas. A condominium is not the building structure; it is a legal form of home ownership 4. Cooperative housing is a form of housing in which the units in a building are owned by a nonprofit organization. The shareholders purchase stock to obtain the right to live in a unit in the building. While the residents do not own the units, they have the legal right to occupy a unit for as long as they own stock in the cooperative association. The titles for the property belongs to the co-op. This ownership arrangement is different from condominiums, in which residents own the individual living unit 5. Manufactured homes are assembled in a factory and then moved to the living site. Prefabricated homes have components built in a factory and then assembled at the housing site. Mobile home is not a completely accurate term since very few are moved from their original sites. Although typically smaller than 1,000 square feet, they can offer features such as a fully equipped kitchen, fireplace, cathedral ceiling, and whirlpool bath. The site for a mobile home may be either purchased or leased 6. Building a home is for people who want certain specifications. Before starting such a project, be sure you possess the necessary knowledge, money, and perseverance. When choosing a contractor to coordinate the project, consider (a) the contractor's experience and reputation; (b) the contractor's relationship with the architect, materials suppliers, electricians, plumbers, carpenters, and other personnel; and (c) payment arrangements during construction. Your written contract should include a time schedule, cost estimates, a description of the work, and a payment schedule