Author Topic: Buying A Second Home and What To Do with The First  (Read 5320 times)

Sblak

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Buying A Second Home and What To Do with The First
« on: October 22, 2014, 04:41:02 PM »
My wife and I live in a 3 bedroom, 1400 square foot home.  We just had our fourth child.  Woohoo.  While the home just fits us right now, we want to move into a larger, 4 bedroom, approximately 2000 square foot in 5 years to give our kids more room as they get older.  We are both pretty set on the move and I not looking to argue on this thread about the right size home for our family.  Instead I want to understand how to best make the upgrade.

A little about us. I work as a lawyer for the state and she stays at home with our kids.  The kids are young enough it makes sense for my wife to stay home.  I make approximately $70,000.  We own our cars and have no debt.  I like my job (shockingly) and have an amazing pension available.  I plan to work until I qualify for full retirement from my job, about 17 more years, when I will receive approximately 60% of my highest salary from the last few years before I retire for the rest of my life (that would be a higher percentage of my salary than we spend right now).  I am already deferring some income into a 457(b) plan through my work.  We want to own our home outright before I retire.  All of this is a little off topic, but I wanted to say I think we will be OK and feel the move is a good idea, that won't significantly alter any of our plans.

We live in a pretty low cost of living area.  We currently own a home that is worth about $190,000.  We have a mortgage on it for approximately $130,000 fixed at 3.75%.  Our current monthly mortgage payment (including insurance and property taxes) is about $850.  We want to move into a home valued at approximately $300,000.  That means we will need about $60,000 as a down payment.

I am currently putting about $1,000 a month in a 457(b) plan that could be used instead to make the move happen.  We have a few very low cost Vanguard options in this plan, and I like to put money here, but am flexible.

I can see a few options for how to make the upgrade to a new home, but am not sure which is the best way.

1. The first option is pretty straight forward.  Keep paying $1,000 a month toward the 457(b).  Pay no extra on the mortgage on the current home.  When we want to move, we can sell the home we live in, and use the proceeds as a down payment on the new house.  If the timing on buying the new house is delayed, we would find somewhere to live for a little while until we buy the new house.  I like this because all the money we might be saving for a new house is invested.  I don't like it because we won't own a second home when we retire, but the move could come whenever we are ready.

2. Stop saving in the 457(b).  Instead, stash $1,000 cash in a bank account  and use it all for a down payment on a second house while living in our first house.  Once we make the move we could rent out the first home and become landlords.  While I like the idea of owning two homes, I don't like this option because it would be several years of money lazing about, not even making 3.75% that it could by putting the extra money toward the mortgage.  It does keep a pretty nice mortgage rate on the home that is most likely to turn it into a profitable rental property.  However, it puts the certainty of the move out about 5 years because it would take that long to save the cash for a down payment.

3. Do something in between.  Put $500 a month extra toward the mortgage on our first home for a few years and the other $500 into my 457(b) plan.  When the time to move comes, we could refinance the first home and pull out $60,000 from the first home's equity to make a down payment on a second home.  We would be able to keep the first home and to rent it out but with higher mortgage.  It would make it harder for the rental to be as profitable, but we would have more money in my 457(b).  And we would have a little more flexibility on timing the move because we would not have to save up the entire down payment for the second home first.

Which option seems best?  What options am I missing within this framework?  While I may get raises in the future, but I don't make my plans assuming them.  I use them to accelerate our plans.  And making significantly more money isn't likely.  Thanks.
« Last Edit: October 22, 2014, 04:43:55 PM by Sblak »

Terrestrial

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Re: Buying A Second Home and What To Do with The First
« Reply #1 on: October 22, 2014, 07:05:00 PM »
How do the numbers break out for making the first house a rental? I.e. how profitable are we talking?  That would probably be the biggest factor in the decision for me. 

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #2 on: October 23, 2014, 08:43:35 AM »
A little more detail I should have included.  I bought the home for $155,000.  It was financed at a 3.75% rate over 30 years.  I currently owe about $130,000 and have 26 years left on the mortgage.  I pay $678 to the PI (about $250 toward the principal).  I pay another ~$180 in TI (about $100 in taxes and $80 insurance) so my total monthly payment for the house is about $860.  Zillow (for what it is worth) says that its current value is about $190,000 and that I could rent it for $1,200.  There are no HOA costs.  Would you want to know anything more to evaluate it as a rental?

Everything in it is new from when we moved in (plumbing, roof, yard, floors, doors, electrical and more) so I don't have many worries about upcoming expenses on the house.  I am pretty handy (some plumbing and electrical experience) and can handle almost all the routine maintenance myself.  Would it be worth trying to keep the house and have someone pay it off, or would it be more valuable to sell it?

hybrid

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Re: Buying A Second Home and What To Do with The First
« Reply #3 on: October 23, 2014, 08:47:14 AM »
If it were me, I'd rent the first home.

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #4 on: October 23, 2014, 08:56:11 AM »
So how would you rent it, Hybrid?  Save up enough cash in an account for a down payment on a second home?

Seņora Savings

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Re: Buying A Second Home and What To Do with The First
« Reply #5 on: October 23, 2014, 09:14:59 AM »
I'd save the cash in bonds, that's a bit better than a bank account.  That will give you more options in five years than if you have the money in the house

Are you planning on staying in the big house in retirement?  It sounds like you'll be retiring about the time the last kid graduates high school, so it could be nice to have the smaller house that you're familiar with waiting for you to move back in.

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #6 on: October 23, 2014, 12:23:51 PM »
We should pay off both houses before retirement and stay in the bigger on through the beginning of retirement.  Probably until we are sure the kids are not coming back again.  Then we may move back into the first home we loved and travel, visit out kids, enjoy life. 

Anyone have a recommendation for what bonds fund to buy for the next few years?  I have a Vanguard account.  Thanks for the help.

Dicey

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Re: Buying A Second Home and What To Do with The First
« Reply #7 on: October 23, 2014, 01:27:43 PM »
I'd love to chime in, but need to know a more.

How much do you have thus far in retirement savings?
How much do you have in non-retirement savings? (i.e. potential down payment money) I know you don't have 60k, but what do you have?
Do you have a healthy EF, aside from any other savings?
How is the current RE market in your area? It sounds stable from your numbers, but elaborate if possible please.

Sorry, these seem like nosy questions, but they are vital pieces of the puzzle.

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #8 on: October 23, 2014, 02:35:54 PM »
I'll try to answer your questions, Diane.

I have 7 years toward my state retirement pension.  It's a defined benefit plan.  17 more years working for the state and I'll have a guaranteed pension worth almost 60% of my salary for the last few years before retirement for the rest of my life.  I plan to keep working for the state of Arizona until then.  I like my job and am not currently looking to RE, just to get FI.  I could withdraw or roll over to and IRA about $80,000 from the pension right now, but the years toward the pension is worth much more than the funds especially if I wait to retire in my early fifties.  We have a 457(b) with about $10,000 in it.  We have about $60,000 in equity in our home. 

For non-retirement savings, we have only the cash in our checking accounts, about $3,000.  So we need to start basically from zero to get a down payment.  We don't have much else saved because I wanted to pay off my law school loans first, which we did.  Yay!  My job is pretty specialized and I am good at it, so I am not worried about being fired.  They would pay me about $10,000 if I leave.  The amazing insurance package, the stability of my job, and our lack of debt is our emergency fund.  Personally I never worried to much about an EF

The real estate market for sellers is pretty slow but otherwise seems pretty stable.  Property values were growing pretty quickly for a few years aft the crash, but has been stable, with a slow rise for the last year or two.  I don't know much about the rental market here.  Thinking about it now seriously for the first time.  If you have specific questions about the rental market I could find out, but I know so little, I don't know what to give you first.

Seņora Savings

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Re: Buying A Second Home and What To Do with The First
« Reply #9 on: October 23, 2014, 02:41:49 PM »
The amazing insurance package, the stability of my job, and our lack of debt is our emergency fund.  Personally I never worried to much about an EF

Equity in your house can also count as an emergency fund. 

Will your wife be taken care of in the event of your death?

AccidentalMiser

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Re: Buying A Second Home and What To Do with The First
« Reply #10 on: October 23, 2014, 02:52:38 PM »
Congrats on the family addition and your positive outlook and potential.

I would not stop contributing to your 457.

I would also not buy a bigger house.  I would plan to rent a larger place for ten years while your kids are teen-sized and rent out your smaller home.  The delta will be a few hundred per month and you won't be on the hook for a bigger house when it's time to move back. 

I've rented one house while renting out another several times, I think you might be wise to consider doing so. 

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #11 on: October 23, 2014, 03:56:00 PM »
I have a million dollar term life insurance policy that will cover my wife and family if I die.  My wife is also very capable (she has a degree) but stays home because we think it's best for our kids.  If the worst happened, she could earn good money.

I understand that my equity in my house could serve as an emergency fund if I needed cash, but anything that required more money than a couple thousand might require other life changes such as selling a house, or moving, so I figured we would work that out if it happened.  Plus a house is not as immediately liquid as cash.

I forgot to mention I have a couple thousand in a Roth that I haven't contributed to since I started putting money toward the 457(b).  I would contribute more, but I don't believe the Roth is as beneficial as the 457(b) because of the tax benefits of the 457(b).

Accidental Miser, why would you not want to own two houses?  Do you not like home ownership?  Is there something specific about a home count higher than one that you don't like?  Wherever we move to, we will likely stay for about 15 years.  That means with a relatively small extra payment toward the new house, we should be able to own both houses before we move back to a smaller home for retirement.
« Last Edit: October 23, 2014, 04:07:36 PM by Sblak »

AccidentalMiser

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Re: Buying A Second Home and What To Do with The First
« Reply #12 on: October 24, 2014, 09:14:22 AM »
Accidental Miser, why would you not want to own two houses?  Do you not like home ownership?  Is there something specific about a home count higher than one that you don't like?  Wherever we move to, we will likely stay for about 15 years.  That means with a relatively small extra payment toward the new house, we should be able to own both houses before we move back to a smaller home for retirement.

Excellent question.  I have bought ten houses in my life and still own five of them.  Of the five I've sold, I lost money on four of them.  Maybe I'm just stupid or unlucky.

If you'll be there 15 years, you should probably buy another.  In my opinion, owning houses looks like a great idea until something goes wrong, then its a huge albatross around your neck.  You sound like a smart and thoughtful guy (you're planning five years ahead), so everything should be OK for you.  Just make sure your plan addresses worst-case contingencies.

SunshineGirl

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Re: Buying A Second Home and What To Do with The First
« Reply #13 on: October 24, 2014, 10:01:51 AM »
Is doing an addition onto your current home an option vs. moving? It seems like a lot of hassle only to gain 600 SF, so you might want to explore the possibility of doing a good remodel instead -- if you like the neighborhood and schools, etc.

Also, are you sure you can take money out of the 457(b)? I thought you could only do that if you leave the employer.

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #14 on: October 24, 2014, 10:15:33 AM »
SunshineGirl.  We have considered doing an addition.  We have good schools, and like the neighborhood.   I don't want to because I am interested in moving closer to work.  Right now I live 30 minutes away.  I ride a subsidized public bus and carpool, so it's not much of a hassle and an incredibly low cost commute, but I still want to move 10 minutes closer to save time.  Moving gets us a slightly larger house (larger size isn't the most important part, we really want more rooms, but the size depends on the market in 5 years) and as a bonus I get closer to the place I will work the rest of my life.

Also, if you are referring to what I said earlier about rolling over money into an IRA, I meant that I could roll over my pension account, not the 457(b) account.  I would not take anything out of either unless something drastic happened.

Accidental Miser.  How did you end up losing money on your houses?  Were they short term purchases?  Forced sales?  I am planning ahead because we have low liquidity and have to plan ahead to make anything happen.  I am not on a strict timeline, and hope to buy when the purchase seems right, wishing for a down market.  I hope that 15 years is enough time to pay off the house completely.

I think I will buy a second house, and rent the first.  To do that I wil start saving cash in bonds for a down payment.  Thanks for the advice everyone.

zolotiyeruki

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Re: Buying A Second Home and What To Do with The First
« Reply #15 on: October 24, 2014, 11:22:30 AM »
ooh, and I *so* wanted to talk you into staying in your current home! :P

I think you're on the right path--save up for the down payment and keep the old home to rent out, IF you're ready to be a land lord.  Otherwise, save up, buy the new house, move, sell the old house, and invest whatever equity you get out of the old house.  As for where to put the money while you save, since you're looking at a 5-year time frame, I'd say stick it in an index fund and wait.

Given your salary and low housing costs, it may be possible for you to save even more than $1k/mo towards the new house.  Several years ago I was in a similar position (1 kid, single income, about the same housing cost and salary) and we were saving more than that towards retirement.

Dicey

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Re: Buying A Second Home and What To Do with The First
« Reply #16 on: October 24, 2014, 11:43:07 AM »
Thanks for your response, Sblak. I see you've come closer to an answer, so I'll just add a few thoughts based on personal experience, if I may.

1. Congratulations on killing your school loans. That is HUGE.
2. Ditto for consumer debt.
3. DBP's are awesome. Excellent that you plan to stay in your job long enough max it out.
4. I'm okay with a HELOC for emergencies, but would still like to see you up your cash on hand to at least 5k ASAP.
5. Keep your retirement saving at your current levels. The DBP alone probably won't be enough. The sooner you fund your retirement accounts, the fewer dollars you will need to save.
6. Stop paying anything extra on the current mortgage.
7. Start saving like your hair is on fire for the next down payment.

I vote YES on the second house. Keep your current home as a rental, consider it your kid's college fund. I would NOT wait for five years. Take the next year or two to save and learn about the rental market in your area. Start looking for a new home to serve your family until the kids leave the nest permanently preferably within walking distance to work. The extra family time you will gain is invaluable. Hint: they may be around more than ten years.
 
Shocker alert:  PMI can be a useful tool under the right circumstances. My opinion it that five years it too long to wait. I am not against buying property with less than 20% down. Scrape together as much as you can in the next 12-24 months and find the right house. You can use a combination of strategies such as savings/private loans/HELOC on house #1/builder buydowns/FHA/whatever to cobble together a down payment, except retirement funds. Leave those alone and let them compound like magic.

Note: I am offering this advice because your income is stable, you have no debt and you are sure you want to stay in your area. Creative financing can be an excellent tool for someone with your credentials. BTW: when the market dumped and real estate prices tanked, only sellers lost money. You could ride out another market downturn (heaven forbid) since your income is stable and your job will not move.

Finally, please ignore the clamor from the folks who say you should live in a shoebox. I would remind those folks that the MM Family is only three people. Their old house was way over 2K sf. Even their new super energy-efficient house is bigger than Sblak's, IIRC.

Quality of life is important for your family and you do not have any debt. Because of the good work you have done to establish yourself, you can do what you want to and much sooner than you think.

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #17 on: October 24, 2014, 12:57:23 PM »
Zolotiyeruki.  We do have low housing costs, and we are very Mustachian in our spending habits.  I also didn't say that we would save only $1,000 a month.  The pension takes about 12% of my salary.  Which builds toward my pension, or could be withdrawn and rolled into an IRA.  I also pay 10% or about $7,000 a year to my church and donate my time.  Church is non-negotiable.  While it may delay my retirement a little, if I retired, I would just do more with my family and church in retirement, so in a sense, I am doing some of what I want to do already.  Most of the extra money you wisely spotted in our finances is being allocated already.

We usually build up extra in our accounts throughout the year and then when we get a tax refund (4 kids means I almost always get a large one, even though I don't withhold much) I put our year's extra toward something.  In the past it was put toward loans and other debt.  Right now I believe I will be able to deposit another $5,000-7,000 into our house savings.  In a good scenario, we could buy a house in 3 and a half years.  If I get a raise, which is possible, we could shrink the time to 3 years or less.  But I don't plan based on hoped for good events.  I plan based on the minimum likely, and then enjoy when things go easier than I planned.

« Last Edit: October 24, 2014, 01:17:55 PM by Sblak »

Sblak

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Re: Buying A Second Home and What To Do with The First
« Reply #18 on: October 24, 2014, 01:15:14 PM »
Diane C.  I agree that a DBP is not likely to be enough.  I am not maxing it out, just qualifying for a full pension.  Ever year I work past a full pension is worth an additional 2.3% of my salary in retirement.  So I could work a little longer, say 5 more years, and I would get an 11.5% pension increase, plus additional deferred savings while working.  But I don't think I'll need to work more than the minimum to qualify for a full pension. 

A 457(b) funded over the next 17 years, plus a second house, plus the ability to work part time even in retirement should be plenty.  I am a tax lawyer, and am confident that should I retire, I could do intermittent part time work and earn play money as needed.  Once I get a second house I will defer more again and probably contribute to a Roth as well. 

I don't want or intend to live in a shoe box.  The only problem I have with a much bigger house is that my kids might start to think they are entitled to an easy life, and that they deserve to consume more.  If the market is good, and things turn out better than I expect, we'll probably get a larger house.  Maybe even 2,500 square feet. 

However, there is no easy way to live much closer to work.  I work in downtown Phoenix, near the capitol.  There are no good neighborhoods within about 5 miles of work.  And more importantly, if I move closer to work, I move farther from my parents and my brother, my wife's parents, her her brother.  We have four kids and we save on babysitting by asking family to help out.  We do dinners on Sundays at their houses.  My wife often gets help during the day with the kids from her mom.  So if I move farther away, we are driving longer distances for those things.  And while I can commute on public transportation very cheaply, we can't commute to family.  So we live near family.  Moving about 10 miles closer to work is our limit.

I plan to save as much as I can.  If the market crashes, I plan to move earlier, refinance the first home, use FHA perhaps, because buying at a good home at a good time, with less than perfect financing seems better than buying at a bad time with 20% down financing.  Still I don't know the future, but saving up for the further goal is also saving for moving early.