Help me convince my brother he's facepunching himself with an FHA loan

[rageth]

I'm still new to mustachianism, but I'm going to be completing a year of it pretty soon and my new bride and I are getting our finances in order pretty well because of it.  My brother the accountant, on the other hand, I'm convinced is about to make a horrible decision.

Let's look at the numbers:
2 car payments (~$15k at 5% interest)
2 federal student loan payments ($100k at 3.5-6.8% interest)
1 wedding to pay for in June
3 pets that are prone to vet visits


And now he and his wife-to-be are looking at putting down 3.5% to get a 3.5-4% interest mortgage on a new house with an FHA loan to, as he said, "replace my $1000/month rent bill for a 2br apartment."

I've told him that with an FHA he would have almost no equity in the house for YEARS and that he would have to pay the expensive PMI for the life of the loan.

What else can I tell him about this to tell him that this is a facepunch moment?

[brotatochip]

You only pay PMI until you have 20% equity in the home, not the life of the loan

[ShoulderThingThatGoesUp]

You only pay PMI until you have 20% equity in the home, not the life of the loan

I think this has changed.

Frankly that is nowhere near the worst decision he has going on - car payments at 5% interest are way more embarrassing. What will the effective interest rate be with PMI?

[goosefraba1]

You only pay PMI until you have 20% equity in the home, not the life of the loan

I think this has changed.

Frankly that is nowhere near the worst decision he has going on - car payments at 5% interest are way more embarrassing. What will the effective interest rate be with PMI?

Is this only with FHA loans? As far as I know with traditional, it is only until you reach 20%. We are currently trying to save up a 20% down payment (40k on a 200k house... only 10k left!)

Sorry for the derail.

[rothwem]

You've got to refinance to get rid of PMI on an FHA loan.

As for whether it's a good idea or not, you've got to look at everything. If his mortgage is less than his apartment, then it doesn't seem to bad. Sure, he'll have less equity than he would with a non-FHA loan, but how much equity is he going to have with a rented apartment?

If you're staying put for a while, it's not a bad idea to buy a house, provided that you're not buying a house that's too expensive.

[KCM5]

He should look at other loan programs. We used Fannie Mae Homepath, also put 3.5% down and no PMI with a normal interest rate (3.125% because we bought in 2012).

That said, if they're sure they're going to stay for 10 years or more, its not even a truly terrible decision. Questionable: yes, but it doesn't sound like they have the financial chops to save up 20%. How much is the house?

[rageth]

He should look at other loan programs. We used Fannie Mae Homepath, also put 3.5% down and no PMI with a normal interest rate (3.125% because we bought in 2012).

That said, if they're sure they're going to stay for 10 years or more, its not even a truly terrible decision. Questionable: yes, but it doesn't sound like they have the financial chops to save up 20%. How much is the house?

I'll have him look at Fannie Mae.  Their problem, though, is their stability or lack thereof.  They have now moved to 3 different cities in the last 2 years because my brother has changed jobs that many times and the reason he chose this current job is because they have offices around the country.

The size of the house they are looking at I'm still not sure because their pattern has been to constantly change their minds and jump into decisions that cost lots of money.

From others' comments maybe I'm just so debt-averse currently with the end in sight of my own student loans that I think it would be crazy for 2 unsettled people to jump into buying a house without the finances to be able to pay for any major malfunctions that may occur or the know-how to fix any of them themselves.

[KCM5]

I'll have him look at Fannie Mae.  Their problem, though, is their stability or lack thereof.  They have now moved to 3 different cities in the last 2 years because my brother has changed jobs that many times and the reason he chose this current job is because they have offices around the country.

The size of the house they are looking at I'm still not sure because their pattern has been to constantly change their minds and jump into decisions that cost lots of money.

From others' comments maybe I'm just so debt-averse currently with the end in sight of my own student loans that I think it would be crazy for 2 unsettled people to jump into buying a house without the finances to be able to pay for any major malfunctions that may occur or the know-how to fix any of them themselves.

Nope. You're right. If they don't want to settle in one place they should not buy a house. Period. Remind him of the costs of buying and selling a house (6% each side) and then have him compare that plus closing costs plus monthly mortgage payment and compare that with rent. He'll come out ahead renting, no doubt.

[Jack]

I'll have him look at Fannie Mae.  Their problem, though, is their stability or lack thereof.  They have now moved to 3 different cities in the last 2 years because my brother has changed jobs that many times and the reason he chose this current job is because they have offices around the country.

In that case, the decision is dumb in a way that has nothing to do with the loan terms.

[Fishingmn]

There's nothing wrong with FHA loans.

The vast majority of first time buyers use them. They seem to have plenty of income but not enough for a conventional loan downpayment.

The other question about whether it's a good decision is valid. They should be willing to commit to at least 5-7 years in this home.

[MillenialMustache]

I had an FHA loan. One of the best decisions I have ever made. I didn't have money for a down payment, but it was cheaper than renting to buy a home.  I did have a PMI, but I paid off the entire loan in about four years, so it really didn't matter (our income went up quite a bit over those four years, even more than we expected). Also, the PMI can be removed (don't remember specifics anymore, we didn't have our loan long enough), at least by refinancing. With that being said, it sounds like your brother should not buy a home if he is planning to move in the next five years or less, but that has nothing to do with FHA loans.

[zephyr911]

Bro doesn't sound like a guy who's about to pay off a loan in four years, and the above comments are correct. FHA PMI is now lifelong, regardless of equity %. He should be cutting costs and paying off debt, not taking on another obligation.

[rageth]

Bro doesn't sound like a guy who's about to pay off a loan in four years, and the above comments are correct. FHA PMI is now lifelong, regardless of equity %. He should be cutting costs and paying off debt, not taking on another obligation.

Not in the least especially when his bride to be is just about the antithesis of mustachian.

There's nothing wrong with FHA loans.

The vast majority of first time buyers use them. They seem to have plenty of income but not enough for a conventional loan downpayment.

The other question about whether it's a good decision is valid. They should be willing to commit to at least 5-7 years in this home.

I totally understand why people would do it, it just seems like a poor financial strategy.  If you can't save up even 10%, how are you going to pay for a new roof or furnace, etc.?

Also, they're talking about starting a family and with what it looks like they'll be able to afford, they'll grow out of what they would be buying now well before they would be in it for 5-7 years.

[Jack]

I totally understand why people would do it, it just seems like a poor financial strategy.  If you can't save up even 10%, how are you going to pay for a new roof or furnace, etc.?

You don't. You make the seller pay for anything found by the inspection as well as one of those bullshit "home warranty" things and then hope nothing goes wrong in the first couple of years of ownership before you've saved up a new emergency fund.

[clarkfan1979]

I would try to convince your brother to do traditional financing at 5% for two reasons.

1) As far as I know you have to pay PMI on the life of the loan for FHA.

2) It will be more difficult to get a seller to agreed to an FHA offer because they are a pain the ass and less likely to close.

[Bearded Man]

You only pay PMI until you have 20% equity in the home, not the life of the loan

Nope. Changed mid 2013. Now you pay the PMI for the life of the loan. You could always refinance though to get out of the FHA loan. I got one of the last loans that allow the PMI to drop off after 5 years. 3.25% with minimal down payment/cash invested = more cash left to invest elsewhere.

[slugsworth]

Ask him what the up front MIP on the FHA loan is.

[AZDude]

Well, there is nothing wrong with an FHA loan if you lack funds for a 20% down payment. The PMI is generally lower, but stays for the life of the loan. If he has great credit, he can do better elsewhere, but, and I'm just stereotyping here, he does not seem like someone with an 800 FICO score, so the FHA might be the best rate/PMI payment he can get. FHA is best for people with questionable credit or couples just starting out without a big cash stash, etc, etc, etc...

For him, more important that the specific loan he is getting would be is the house affordable, is it reasonable given the size/potential size of his family, is it close to a bunch of employers in his/her field, etc...

That and does he have a long term financial plan.

Basically, yeah this might not be the most optimal loan he can get, but the loan itself is hardly an egregious waste of money that can never be fixed. However, if he is buying a 2500 sqft home and never plans on having children, etc.. Then go facepunch him.

[charis]

I totally understand why people would do it, it just seems like a poor financial strategy.  If you can't save up even 10%, how are you going to pay for a new roof or furnace, etc.?

Also, they're talking about starting a family and with what it looks like they'll be able to afford, they'll grow out of what they would be buying now well before they would be in it for 5-7 years.

Well, it is completely circumstance-dependent whether it's a poor financial strategy.  We got an FHA loan and it was one of the best financial decisions we ever made.  We didn't have much cash with a baby on the way (sounds bad so far).  But we found a great (superficially outdated) house in a great neighborhood for a great price at well below what we could technically "afford" on a monthly basis for our income.  We got an 8K first time homeowners credit to boot (still part of our EF).  Three years later we refinanced to conventional loan with a lower interest rate and a short term.  So whether it's an FHA loan is a red herring, it's about the overall financial strategy.

[zephyr911]

Well, it is completely circumstance-dependent whether it's a poor financial strategy.  We got an FHA loan and it was one of the best financial decisions we ever made.  We didn't have much cash with a baby on the way (sounds bad so far).  But we found a great (superficially outdated) house in a great neighborhood for a great price at well below what we could technically "afford" on a monthly basis for our income.  We got an 8K first time homeowners credit to boot (still part of our EF).  Three years later we refinanced to conventional loan with a lower interest rate and a short term.  So whether it's an FHA loan is a red herring, it's about the overall financial strategy.

Because the factors that helped you get out of the FHA loan are missing in this case, it's less of a red herring and more of a lifetime capital drain. FHA can be a good tool to leverage a smart investment, sure. But just because you used it as part of a successful strategy doesn't mean it's always part of a good plan, or of any plan.

[charis]

Well, it is completely circumstance-dependent whether it's a poor financial strategy.  We got an FHA loan and it was one of the best financial decisions we ever made.  We didn't have much cash with a baby on the way (sounds bad so far).  But we found a great (superficially outdated) house in a great neighborhood for a great price at well below what we could technically "afford" on a monthly basis for our income.  We got an 8K first time homeowners credit to boot (still part of our EF).  Three years later we refinanced to conventional loan with a lower interest rate and a short term.  So whether it's an FHA loan is a red herring, it's about the overall financial strategy.

Because the factors that helped you get out of the FHA loan are missing in this case, it's less of a red herring and more of a lifetime capital drain. FHA can be a good tool to leverage a smart investment, sure. But just because you used it as part of a successful strategy doesn't mean it's always part of a good plan, or of any plan.

Which is way I said it depends on the circumstances.  It's not FHA loan that is the problem.  It's the person who takes it out.   It can always be part of a good plan.  The "factors that helped" us were us, saving money.  If they have the money for a down payment, then it's a non issue and they can get a conventional loan.  If not, what matters is what they do after they take out the loan. 

[Dicey]

Kinda surprised to be the first to say "MYOB". Butt out, it's his life and these are his mistakes to make, not yours. It's nice that you care, but how likely is he to listen to your advice? Don't let your newfound zeal for Mustachianism create a wedge between you and your brother. I know it's like watching a car wreck in slow-mo, but some people have to make their own mistakes.

[rageth]

Kinda surprised to be the first to say "MYOB". Butt out, it's his life and these are his mistakes to make, not yours. It's nice that you care, but how likely is he to listen to your advice? Don't let your newfound zeal for Mustachianism create a wedge between you and your brother. I know it's like watching a car wreck in slow-mo, but some people have to make their own mistakes.

Too true, too true.  However, his issues are partially mine in that we share a payment for a HELOC loan that our parents took out to pay for some of our student loans.  He screws up this house deal, and he can't make a loan payment, that's my business.