Homing Instincts: Ready to Buy?

by Dianne Molvig

If you're a renter eyeing current low mortgage interest rates, you may be feeling tempted to take the plunge into home ownership. Friends and family members also may be nudging you with advice that now is the time to buy.

They're partly right. With today's low rates, it is an opportune time to borrow money to buy a house. But is now the right time for you to buy? Answering that takes more reflection.

The fact that interest rates are low "is the wrong reason to decide to buy a home," says Ilyce Glink, nationally syndicated columnist, Chicago television financial correspondent, and author of several books, including "100 Questions Every First-Time Home Buyer Should Ask" (ISBN 0812932358). "You buy a home because you're ready to make the investment and take care of a home, and because you want to set down roots."

Can you afford it?

Before you even can consider buying a home, you must be financially ready. If you can't afford to buy, you have no decision to make. Have you saved for a down payment--say at least 5% of the purchase price of a home? Is your credit record healthy? Can you afford the property taxes? Can you make the monthly mortgage payments?

To assess the latter, lenders usually follow the 28/36 guideline if your down payment is less than 20%. Your total monthly housing costs (principal and interest for the mortgage, plus property taxes and insurance) should be no more than 28% of your monthly gross income--income before taxes and other deductions. Total monthly debt obligations (mortgage, car payments, credit cards, college loans) should not exceed 36% of your monthly gross income.

But guidelines vary. Many special programs exist to make home buying more affordable for more people, by offering lower rates, smaller down-payment requirements, and so on. Your credit union mortgage lender can give you a full rundown on your options and help you calculate what you can afford.

Your down payment and monthly payments are only part of the cost of buying. You'll need additional upfront money to cover closing costs (lender fees and so on), plus you'll want to hire an attorney and a home inspector. These costs vary greatly by location. Again, your credit union lender is an excellent source for information.

Now, add to the cost of buying the cost of owning. If, for instance, you're a Duluth, Minn., homeowner whose furnace dies in December, you have to buy a furnace, pronto. Do you have cash reserves to cover such emergencies as well as ordinary maintenance?

What are your plans?

Let's say you have the financial side covered. You know you can afford to buy and own. Should you? Here additional factors enter into your decision making.

First, how settled are you? Is a job transfer likely? Are you thinking you might like a change of scenery sometime in the near future? "If you're not going to be in the same location for the next three to seven years," Glink says, "you're not going to want to buy a house."

That's because after only a few years, you won't make enough on the house sale to at least break even. You have to pay off the remaining mortgage, plus recoup what you spent for the down payment, closing costs, and other upfront expenses--and pay a real estate agent's commission for selling your home.

Sometimes, Glick adds, you can break even more quickly, or perhaps even turn a profit. For example, if you buy a fixer-upper and renovate it, you might make a profit in a short time. "Or you could get lucky," she notes, "and end up in a place that appreciates tremendously in value. We've seen neighborhoods in some areas where prices have doubled in two years." Generally, however, house sale prices nationwide appreciated 6.92% during 2001, according to the Office of Federal Housing Enterprise Oversight.

You might be planning to stay put for years to come, but you still may not know exactly where you want to live. "If you're not sure what you want or you're unfamiliar with the area, rent for a while," advises Jack Harris, research economist at the Real Estate Center at Texas A & M University, College Station. "That gives you a chance to try out a neighborhood, or even in some cases a house, before you make the commitment to buy."

What matters most to you?

One major draw of home ownership is growing equity, or the value of what you own as you pay off the mortgage. After 10 years you have something to show besides a fistful of canceled rent checks. You don't have to face yearly rent hikes, which tend to outpace property tax increase rates. So your housing costs stay more stable and predictable (unless you have an adjustable-rate mortgage during a volatile economic time).

Another key perk arrives each year at income tax time. Mortgage interest and property taxes are tax deductible. But be sure you understand how this works, advises Harris. Say you're paying $10,000 a year in mortgage interest and property taxes, and you're in a 30% tax bracket. A little quick mental math would tell you you're saving $3,000 in taxes.

That's the mistake people often make, Harris notes. They forget they would have gotten part of that tax break anyway, in the form of a standard deduction. If you're married filing jointly, your standard deduction for 2002 is $7,850. That translates into a $2,355 tax break if you're in the 30% tax bracket. In other words, you come out $645 ahead ($3,000 - $2,355) as a homeowner vs. a renter, not $3,000.

To take a deduction for mortgage interest and property taxes, you must itemize deductions on your tax return. When you itemize, you pass up the standard deduction. Only if your total itemized deductions exceed the standard deduction do you gain any tax benefit from being a homeowner, Harris points out.

Still, in the end what matters most to potential buyers is not the number-crunching, but the emotions. Would-be buyers want to be free of landlords, to put their own stamp on a place--whether it's painting the bedroom ceiling sky-blue or planting a pear tree in the yard. But the freedom factor cuts both ways. A beautiful day will come when you long to go bicycling, but you're stuck at home cleaning roof gutters, unless you're willing to pay someone else to do it.

All things considered, if you have the money to buy and own, if you have no plans to move, and if you feel ready to make a house a home, should you buy? "Yes," Harris says. "On the other hand, if you're someone who says you can afford it, but you don't want to mess with keeping up the place, you'd be better off renting."

Published June 3, 2002

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