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7 Selecting and Financing Housing . Evaluating Renting and Buying Alternatives Your lifestyle and your choice of housing How you spend your time and money Every buying decision = lifestyle statement Personal preferences vs. financial factors Traditional financial guidelines :

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7 Selecting and Financing Housing

Evaluating Renting and Buying Alternatives

  • Your lifestyle and your choice of housing

    • How you spend your time and money

    • Every buying decision = lifestyle statement

  • Personal preferences vs. financial factors

  • Traditional financial guidelines:

    • Spend no more than 25-30% of take-home pay on housing, or

    • No more than 2 1/2 times your annual income

    • More difficult to do in inexpensive urban areas


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Objective1Assess Costs and Benefits of Renting

Choice should be based on:

  • Lifestyle (do you like or want to do maintenance tasks?)

  • Financial factors (e.g., affordability, tax deductions, equity)

  • Mobility vs. permanence (are you able to “settle down”?)

  • Renting = less costly in short run (monthly payment)

  • Home ownership =long-term financial advantages (tax deductions and equity growth over time)


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Rental Activities

  • Selecting a rental unit

    • Apartment or house

  • Advantages of renting

    • Easier to move

    • Fewer maintenance responsibilities

    • Minimal financial commitments

  • Disadvantages of renting

    • No tax benefits

    • “Money down the drain” (not building equity)

    • Limitations regarding remodeling

    • Restrictions regarding pets and other activities


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Legal Details of a Lease

  • Description and address of property

  • Name and address of the owner/landlord (lessor)

  • Name of tenant (lessee)

  • Effective date and length of the lease

  • Amount of security deposit

  • Amount and due date of rent

  • Date and amount for late rent payments

  • List of included utilities, appliances, etc.

  • Restrictions on certain activities (e.g., pets, remodeling)

  • The right to sublet the unit; transfer clause

  • Conditions under which landlord may enter unit


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Objective 2Implement the Home-Buying Process


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Home Buying ActivitiesStep 1: Determine Homeownership Needs

  • Evaluate Home Ownership

    • Stability of Residence

      • American dream/norm (personalized living location)

    • Financial Benefits

      • Deduct property taxes, mortgage interest

      • Potential increase in value of your home

      • Building equity in your home

    • Lifestyle Flexibility – Can Express Your Individuality

  • Drawbacks of Homeownership

    • Financial Uncertainty

      • Obtaining money for the down payment

      • Obtaining mortgage financing

      • Home values could drop; can go “underwater” and lose money

    • Limited Mobility

      • Can take time to sell your home

    • Higher Living Costs (Than Renting)

      • Maintenance, repainting, repairs, and home improvements

      • Rising real estate taxes


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Home Buying ActivitiesTypes of Housing Available

  • Single-Family Dwelling

  • Multi-Unit Dwelling

    • Duplex (two homes)

    • Townhouse (2, 4, or 6 units)

  • Condominium

    • Individual ownership of a unit in a building

    • “Condominium” ≠ a type of building structure

    • “Condominium” = a legal form of homeownership

  • Cooperative Housing

    • Units owned by a non-profit organization

    • Shareholders purchase stock for right to live in unit in building with multiple units

  • Manufactured Homes

    • Fully or partially assembled in a factory, and then moved to the housing site

    • Prefabricated = components factory-built and assembled at the site

    • Mass production under factory conditions keeps costs lower than site-built homes


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Home Buying ActivitiesTypes of Housing Available

Mobile Homes

  • Type of manufactured home, often <1,000 sq. ft.

  • Same basic features as a conventional house

  • Safety is debated

  • Tend to depreciate in value (like cars)

  • Owners must own the land or rent the “pad” on which mobile home is placed


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Home Buying ActivitiesTypes of Housing Available

  • Building a Custom Home:

    • Does the contractor have needed experience?

    • Does contractor have a good working relationship with: - Architect?

      - Suppliers?

      - Electricians?

      - Plumbers ?

      - Carpenters?

    • What assurance do you have about quality?

    • What are payment arrangements?

    • What delays will be considered legitimate?

    • Is the contractor licensed and insured?

    • Are there any complaints about this contractor?

    • Contract should have a time schedule, cost estimates, description of work, and a payment schedule


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Home Buying ActivitiesDetermine What You Can Afford

  • Consider both price and quality

  • Look at your income, your current living expenses, and how much you have for a down payment

  • Have a loan officer prequalify you

    • Front-End Ratio- monthly payment for PITI should not exceed 25% to 29% of gross income

    • Back-end Ratio- monthly payment for PITI plus ALL CONSUMER DEBTS should not exceed 33% to 41% of gross income

  • Purchase what you can afford NOW - you can always move up

  • Buy a “fixer-upper” at a lower price ONLY if you have the time, skills, and money to fix it up


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Home Buying Activities Step 2: Find and Evaluate a Home

  • Select a location, location, location

    • Be aware of zoning laws

    • Assess the school system-if you have children OR not

  • Services of real estate agents

    • Will show homes that meet your needs, present your offer, negotiate the price, assist in obtaining financing, and represent you at the closing

    • Commission paid by seller; built into price

    • Seller’s agent, Dual agent, or Buyer’s agent

  • The Home Inspection

    • Conduct a home inspection or hire an inspector

    • Mortgage company will require an appraisal


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HomeBuying Activities Step 3: Price the Property

  • Determine the Home Price

    • Price affected by selling prices in the area

    • Current demand for housing

    • Time home has been on the market

    • Owner’s need to sell

    • Financing options

    • Features and condition of the home

  • Negotiate the Purchase Price

    • Counteroffers are common

    • Earnest money

      • Portion of the price deposited as evidence of good faith

    • Contingency clause

      • Offer dependent on certain events:

        • Obtaining financing

        • Sale of current home


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Objective 3Determine Costs Associated with Purchasing a Home

  • The Finances of Home Buying: The Downpayment and The Mortgage

    Step 4: Obtain Financing

  • Determine down payment amount

    • Large (> 20%) downpayment makes the process easier

  • Mortgage insurance if < 20% down (PMI)

  • Automatic PMI termination when equity =>22%

    • Required by Homeowners Protection Act

  • Feature of a mortgage: LEVERAGE (using other people’s money; magnifies a home’s gain or loss)


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Home Buying ActivitiesThe Mortgage

  • Long-term loan on a specific piece of property (e.g., primary home or other real estate)

  • Usually 10, 15, 20, 25, or 30 years

  • Three main phases

    • Complete application and meet with lender to provide evidence of qualification

    • Lender obtains credit report and verifies application

    • Mortgage is approved or denied

      • Lender commits to make loan for a set period; check lender’s interest-rate lock-in rules


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Home Buying ActivitiesThe Mortgage

  • Qualifying for a mortgage includes:

    • Income

    • Debts

    • Credit history (700+ score)

    • Down payment amount

    • Length of the loan

    • Current mortgage rates

  • “Points” = prepaid interest as a % of loan amount

    • Each point =1% of the loan amount

    • Premium paid to obtain a lower mortgage rate


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Home Buying ActivitiesThe Mortgage

  • Loan for which you qualify will be greater when rates are lower

  • Calculating the monthly principal and interest payment:

    • Exhibit 7-7 = Mortgage payment factors (page 230)

    • Example:

      • 30-year, 7%, $223,000 mortgage

      • Monthly payment = 223 X $6.65 = $1,482.95

      • Payment = Principal repayment + interest

      • PITI = payment + taxes + insurance

  • Fixed-Rate, Fixed-Payment Mortgage

    • Fixed rate, fixed payment, amortized

    • 5%, 10% or 20% down

    • 15, 20 or 30 years of fixed payments

  • Government-Guaranteed Financing Programs

    • Veterans Administration (VA)

    • Federal Housing Authority (FHA)

    • Lower down payment than conventional


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Home Buying ActivitiesTypes of Mortgages

  • Adjustable Rate Mortgage (ARM)

    • Flexible-rate or variable-rate mortgage

    • Interest rate varies over the life of the loan

    • Rate cap restricts amount of change in rate

    • Payment cap restricts amount of change in payment

      • Can result in negative amortization

  • Convertible ARM

    • Allows conversion to a fixed rate during a certain period

  • Balloon Mortgage

    • Fixed monthly payments

    • Large final payment after 3, 5, or 7 years

  • Growing-Equity Mortgage (GEM)

    • Payments increase to allow loan to be paid off more quickly

  • Interest-Only Mortgage

    • Lower payments for the first few years

    • Payments go towards interest only


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Home Buying ActivitiesOther Financing Options

  • Shared Appreciation Mortgage (SAM)

    • Borrower gets a lower interest rate

    • Agrees to share appreciated value of home with the lender

  • Second Mortgage

    • Home equity loan (fixed payments) or HE Line of credit to tap

    • Home = collateral

    • Interest may be tax deductible

  • Reverse mortgages

    • Home equity conversion mortgage

    • Provides homeowners who are 62+ with tax-free income based on home equity; high up-front costs

      Mortgage Repayment Strategies

  • Refinancing

    • Consider costs of refinancing in decision

  • Making extra payments

    • Reduces payoff time & interest paid


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Home Buying Activities

Step 5: Close the Purchase Transaction

  • Make arrangements for a walk through

    • Last-minute items for negotiation

  • Closing

    • Meeting including buyer, seller, lawyers (if any) and sometimes lender

    • Document signing

    • Last-minute details settled; expense payments

    • Closing costs = settlement costs

    • Real Estate Settlement Procedures Act

      • Requires buyers be given closing costs estimate before the closing


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Home Buying Activities

Closing Costs

  • Title insurance and search fee

  • Attorney’s and appraisers fees

  • Property survey

  • Pest inspection

  • Recording fees

  • Transfer taxes

  • Credit report

  • Lender’s origination fee

  • Escrow account for tax and insurance reserve

  • Pre-paid interest

  • Real estate broker’s commission

  • Title Insurance

    • Title company defines boundaries of property

    • Title search to insure property is free of claims

    • Protects against future defects in title

  • Deed

    • Document that transfers ownership

    • Warranty deed guarantees the title is good

      • Seller is true owner with right to sell the property

      • No outstanding claims against the title

  • Escrow Account

    • Money deposited with lending institution for payment of taxes and insurance


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Objective 4Develop a Strategy for Selling a Home

Preparing your home

  • Repair, repaint, clean, reduce clutter

  • When showing home, “Stage It”:

    • Turn on lights

    • Open draperies

    • Bake bread or make coffee for welcoming smell

    • “Curb appeal”

      • Lawn and landscaping

      • Outdoor clutter

      • Exterior paint


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Selling Your Home

  • Determining the selling price

    • Appraisal = estimate of the current value

  • “For Sale by Owner”

    • Use a lawyer or title company

    • Time consuming for seller

  • Listing with a Real Estate Agent

    • Consider agent’s knowledge of the community

    • Various services and marketing efforts

    • Screens potential buyers


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Wrap Up

  • Chapter Quiz

  • Concept Check 7-1- Rent or Buy?

  • Concept Check 7-2- Quality of School for Childless Home Buyers?

  • Concept Check 7-3- Main Sources of Money for Downpayment? and Type of Home Financing Action?