Too poor to buy?

[livrocentral]

Last week I got a message from my landlord informing me that by the end of the summer, she plans to move into the house where my family and I currently reside. She's giving us plenty of notice, but we want to get situated and out of here by June or July.

We're sad to leave. Our 3-bedroom rowhouse has a great little backyard, it's close to parks and the library, and it's really walkable to nearly everything in our daily lives--all for $975 a month, which is about $100-200 below market in our area (eastern PA). Comparable rentals are more like $1200 on average.

Since we had such a great deal on the rental, we planned to keep renting for a few more years while aggressively tackling our student loans. But now that we have to move, after researching the rental market vs. buying a house, buying looks like something we should at least consider. Or maybe it's ridiculous.

Here's our financial picture--

ASSETS: we have $15k in cash, $20k in my IRA and $7k in my wife's Roth IRA. Plus a family member has pledged a gift of $10k when we buy the house. Assuming about $5k for closing costs and not tapping retirement funds, we'll have $20k cash available for a downpayment.

LIABILITIES: $37k in student loans. [Edit: Highest loans are at 6.8%.]

So in other words, we have a net worth of just a few thousand over $0.

Are we crazy to think of buying a house? We could buy a place comparable to our current house for around $150-180k. With P&I, taxes, and homeowner's insurance, we would still pay less per month than the going rate for rentals on a similar house. Not sure how much PMI will add, since we would not be putting down 20% (more like 10-15%).  [Edit: Average property taxes (school district, county, and municipal) in our area are about 2.5% so we're looking at $300–400 per month in taxes.]

My wife and I have both been property managers; we know the headaches of owning and there's a good reason we've been renting all this time! But the rental options are very limited, not very cheap, and we're not thrilled at the idea of having to uproot again if something similar happened with our next landlord.

We just want to get these student loans knocked out as soon as possible so we can move on to the saving side of financial independence. And we're trying to figure out which option, renting or buying, will be the best at getting us there. Now soliciting advice from those of you who have been here and want to share your wisdom. Thanks in advance!

[MDM]

You could finance $170K at 4.5% (e.g., 4% loan + 0.5% PMI) over 30 years for ~$861/mo.  How much would you pay in property tax?  How much more do you expect to pay for homeowner's vs. renter's insurance?

If your total PITI is <$975/mo then you will be no worse off than you are now, assuming all else (commuting costs, etc.) are equal.  How realistic is that for you?

[DirtDiva]

I would count on spending 1% of the home's value per year for maintenance and repairs, so add another $1500= $125/month.

[clarkfan1979]

I would count on spending 1% of the home's value per year for maintenance and repairs, so add another $1500= $125/month.

This 1% number seems to make a lot of sense. Did you get this number from a landlording book?

[nereo]

I'm less worried about your ' net worth of just a few thousand over $0' (after subtracting student  loans) as I am about all the important but unmentioned details.  For example:
How many years do you plan on being in this area?
how secure are your jobs? 
would a ~$150k house allow you to be in a smart location (short/no commute distance, walkable, etc)
how handy are you?  you mentioned being property managers but can you fix a leaky toilet, tile a bathroom, etc?
How much surplus do you have at the end of each month?

We bought our home (20% down) when our savings  - SL = $0, and it wound up being a good decision for us, but we will live here 7+ years, are DIYers and had solid, multi-year contracts.

[clarkfan1979]

I wouldn't call yourself poor. You are on a great path. If you are not willing to live in the house for at least 5 years, then I would lean toward renting.

[Melody]

If the payment plus pmi, taxes etc is less than the cost of renting and you plan to stay in the area i would swing towards doing it as long as your jobs are secure. Once the house  is purchased prioritise building an emergency fund. (I am assuming the payments are well within your income level and you can build the emergency fund quickly... like your income is approx $3k after tax... if its a lot less than than i would wait until you can build a larger financial buffer... reason with a decent income and and a payment similar to rent you will soon have better than zero net worth anyway).

[thd7t]

Given the numbers that you're showing, buying could be a good idea, but avoiding PMI is best.  Otherwise, try to amortize your loan to 78% ltv in the 24 months (conventional loan) that PMI is required.  PMI looks like a really small interest rate applied across the whole loan, but it's really an added rate to the top 20% of your loan and leads to a fairly high rate when added to the rate that the whole mortgage is financed at.  For example, a $100,000 loan with $100000 down would have $450/year in pmi (which appears to be .5%), but really that $450 is only on the top $12,000 of the loan.  This added to the 4.5% over the whole loan leads to that $12k having a 7.75% rate.  It's not the worst thing, but it's deceptively expensive.

EDIT: as you pay the loan down, this rate actually effectively goes up, which is irritating.

[ShoulderThingThatGoesUp]

Depending where you are in eastern PA buying could be a bad idea simply because of reasonably expected depreciation - Scranton, for instance. I'm comfortable owning in the Lehigh Valley. If you're willing to go older and more dated in house, depending where you are, you can definitely go lower than $150k even in a good school district. Then, since it sounds like you're handy, you could build some good sweat equity.

[DirtDiva]

I would count on spending 1% of the home's value per year for maintenance and repairs, so add another $1500= $125/month.

This 1% number seems to make a lot of sense. Did you get this number from a landlording book?

It's a "rule of thumb" I've heard several times in the past.  This article says 1-4% depending on the age of the home:

http://money.usnews.com/money/personal-finance/articles/2012/05/29/look-at-maintenance-costs-before-leaping-into-homeownership

[pac68]

Check NACA or USDA for a mortgage.

[livrocentral]

You could finance $170K at 4.5% (e.g., 4% loan + 0.5% PMI) over 30 years for ~$861/mo.  How much would you pay in property tax?  How much more do you expect to pay for homeowner's vs. renter's insurance? If your total PITI is <$975/mo then you will be no worse off than you are now, assuming all else (commuting costs, etc.) are equal.  How realistic is that for you?

Yeah, it's tricky; we are looking for something that is a nice walk to schools and a park. Where we live now, rentals are about $1200/month. Our $975 was a fluke and a very fortunate one. (Don't worry, we're still looking for more flukes!) I work from home 95% of the time and my wife stays home with the kids and does some freelance work also from home, so we do have some flexibility. But my preference is a small town lot with a detached house. Maybe that's too much to ask at our budget level, but the main problem is smokers--we had to spend the last 2 summers with our windows closed because of a chain smoker who lived next door!

Anyway, my point is that $975 may not be a realistic baseline even for renting.

I wouldn't call yourself poor. You are on a great path. If you are not willing to live in the house for at least 5 years, then I would lean toward renting.

You're right--we are very fortunate and I don't mean to use the term "poor" flippantly. Thanks for the encouragement!!

[ShoulderThingThatGoesUp]

You could finance $170K at 4.5% (e.g., 4% loan + 0.5% PMI) over 30 years for ~$861/mo.  How much would you pay in property tax?  How much more do you expect to pay for homeowner's vs. renter's insurance? If your total PITI is <$975/mo then you will be no worse off than you are now, assuming all else (commuting costs, etc.) are equal.  How realistic is that for you?

Yeah, it's tricky; we are looking for something that is a nice walk to schools and a park. Where we live now, rentals are about $1200/month. Our $975 was a fluke and a very fortunate one. (Don't worry, we're still looking for more flukes!) I work from home 95% of the time and my wife stays home with the kids and does some freelance work also from home, so we do have some flexibility. But my preference is a small town lot with a detached house. Maybe that's too much to ask at our budget level, but the main problem is smokers--we had to spend the last 2 summers with our windows closed because of a chain smoker who lived next door!
[/quote]

Around here you pay about $10000 less for a twin than for a detached house, sometimes more than that. Again, I don't know where you are, but here's probably the best-value 3-bedroom in my small-ish (11k) town:
https://www.redfin.com/PA/Emmaus/520-Ridge-St-18049/home/59080638

Good school district, walkable to parks/libraries/some stores, close to substantial city. I go into Philadelphia a few times a week. And you could certainly afford the linked house given what you've said.

[Doulos]

You will probably hate this answer.

But if you prioritize paying off those loans over buying...

You could rent a 2 or 3 bed room apartment instead.  Would need more details, like the city/town you live in to do better.
Apartments do seem to be available in the sub $1k range.

Then in a year or 2 you could reevaluate your options; once you have the loans paid off and 20% down payment in cash.

[livrocentral]

I'm less worried about your ' net worth of just a few thousand over $0' (after subtracting student  loans) as I am about all the important but unmentioned details.  For example:
How many years do you plan on being in this area?
how secure are your jobs? 
would a ~$150k house allow you to be in a smart location (short/no commute distance, walkable, etc)
how handy are you?  you mentioned being property managers but can you fix a leaky toilet, tile a bathroom, etc?
How much surplus do you have at the end of each month?

We bought our home (20% down) when our savings  - SL = $0, and it wound up being a good decision for us, but we will live here 7+ years, are DIYers and had solid, multi-year contracts.

All very good questions.

How secure are your jobs?

My job is with a small consulting firm. I don't have an employment contract or anything--but that's not common in my profession as far as I know. My wife hasn't worked in about a year so we're not factoring in her income at all. But if I lost my job, I could stay home with the kids and she could seek full-time employment. No guarantees there, of course.

How many years do you plan on being in this area?

Indefinitely (unless of course the job situation got ugly). The town where my job is based is where I grew up, and I have lots of extended family there. I'd probably stay unless a much better job opportunity came along.

would a ~$150k house allow you to be in a smart location (short/no commute distance, walkable, etc)

Good number of options between $150k and 200k in a collection of neighborhoods that would be walk/bikeable to school and work. Supposed to be a great school district, too. Very small lots but most houses are detached or at least semidetached. We grow a lot of food so having some yard is high priority. There are virtually no rentals in this area.

how handy are you?  you mentioned being property managers but can you fix a leaky toilet, tile a bathroom, etc?

I haven't done those things. I would have a decent amount of social capital as my brother and uncle are handy and helpful. We tend to rent places where we have to do minor repairs ourselves. But I see your point.

How much surplus do you have at the end of each month?

The past few months about $1000, but starting in May I'll begin making student loan payments, minimum of about $500 assuming I don't do some reduced income-based thing. My goal is to pay those down as quickly as possible so I'd like to put as much on the loans as I can after setting aside a reasonable amount for maintenance, etc.

You will probably hate this answer.

But if you prioritize paying off those loans over buying...

You could rent a 2 or 3 bed room apartment instead.  Would need more details, like the city/town you live in to do better.
Apartments do seem to be available in the sub $1k range.

Then in a year or 2 you could reevaluate your options; once you have the loans paid off and 20% down payment in cash.

No hate here. We've looked into apartments a little, but after living in houses for the past 5 years and with 3 kids under age 7, it would be a hard adjustment. Part of it is that I already get stressed about sharing walls when the kids make a lot of noise, and avoiding smokers gets harder the more close your proximity. We grow a lot of our food, although community gardens are an option. I appreciate your point, though--every option should be on the table. Thanks for the suggestion!

Any thoughts on the transactional cost of buying a home versus renting? Moving costs should be about the same, but one of our big issues with long-term renting is that it's harder to optimize your life--planting fruit trees, adding insulation, switching to high efficiency appliances, etc. without knowing you are going to lose them when you move.

[johnhenry]

Any thoughts on the transactional cost of buying a home versus renting? Moving costs should be about the same, but one of our big issues with long-term renting is that it's harder to optimize your life--planting fruit trees, adding insulation, switching to high efficiency appliances, etc. without knowing you are going to lose them when you move.

You are right to factor the transactional costs of buying.  You'll need to plan to stay to stay in your purchases home a certain length of time before you've even "paid back" the extra you paid in closing costs, etc.

It sounds like you are ready to put down roots and you know where you want to put them down.  To me, that's the most important question, and it seems like you have it answered.  And it's a point in favor of buying if you know what you want and you can afford it.  But buying vs. renting doesn't give the same long-term optimization benefits (planting trees, insulation, etc) if you buy a place now and wind up buying another place later.

There's something to be said for going ahead and buying the home you want if you are sure it will serve your needs for the very long term. You can start "making it home" right away and enjoy that over the whole time you own it.  But, on the other hand, if you are planning big-ticket expenses like new appliances, etc owning something close to the very max you can afford may push those improvements several years down the road.  Nothing wrong with that, but it reduces the amount of time you realize the savings from your investment.

But from a strictly financial point of view it may make sense to just rent as cheaply as possible until you can afford a place that will serve your needs for the very long term.  And it could even make financial sense to buy a place now that will meet your needs for the next 4-6 years, with the intention of selling (or keeping as a rental) when you can afford (and find) a place that you like.

Some people are pretty picky about the place they plan to live for the very long term.  Those folks may keep an eye on local RE for months/years and rarely see the place that's "perfect for them".  Others may see plenty of homes on the market that will meet their need for the long term.  I think that's the other question that needs answered.  Which camp are you in?  Or lean towards?

If you are picky or think it will be hard to find "just the right house" or "just the right deal", it may make sense to rent and live as cheap as possible until the time you see the right deal so you can pounce on it.   You may be able to save even more money by buying a cheap place, while you wait to find your dream home.  But don't forget: that's going to hinder your flexibility if you decide to buy the home you want to live in long-term... You will have to be in a MUCH better financial position to get a loan for the 2nd house while you still have a mortgage on the 1st.

One last thought.  You say you are worried about your next landlord making you move.  I wouldn't be *that* worried because I don't think its that likely.  But, if you have savings and don't live check to check you are in a MUCH better position than other tenants.  See if you can exploit that.  If you can find a decent cheap place to rent you can a) offer to pay 6 or 12 months at a time for a significant discount and/or  b) ask for a longer lease of 2 or 3 years in return for a discount.  My inlaws did that after they retired early and sold their house quicker than expected.  They paid in full for 1 year in exchange for rent of $850/mo instead of $950.

[livrocentral]

Great points. Thanks for that! Good idea with offering to pay more up-front on the rent, too.

One thing I didn't quite understand, probably just because I am new to the homeowner's world.

You may be able to save even more money by buying a cheap place, while you wait to find your dream home. But don't forget: that's going to hinder your flexibility if you decide to buy the home you want to live in long-term... You will have to be in a MUCH better financial position to get a loan for the 2nd house while you still have a mortgage on the 1st.

Is this because you might be trying to buy house #2 before you can sell #1? How common is that vs. selling house #1 first before proceeding to buy #2?

[johnhenry]

Is this because you might be trying to buy house #2 before you can sell #1? How common is that vs. selling house #1 first before proceeding to buy #2?

Exactly. It can be a tricky, inflexible and expensive dance to buy a more expensive home while you still have a mortgage on your first one.... unless your finances (income, debt/equity ratio, etc) are so good that your lender is OK with your ability to make BOTH mortgage payments at once.  This can be the case for someone who lives in a house WAY below their means and then upgrades to a place still below their means.  But when you are just getting started and haven't built up a nest egg for a bigger down payment or a much larger income, you are not likely to get the best rate from your lender or you'd be forced to write into the contract for the 2nd home that it's contingent on the first one selling within X days.  That situation certainly happens all the time, but as a buyer I'd try hard to avoid it because it decreases your flexibility and bargaining power!!  The seller of the house you want has no reason to accept your offer with a contingency if he thinks he can get one that's a sure thing.

Of course the ways to avoid that situation aren't easy.  You either have to be in a situation where your first mortgage is so insignificant to your financial standing that your lender doesn't penalize you and is willing to make the loan for the 2nd place.  Or you have to be willing to sell the first place and then find a temp residence while you search for your next home (or stipulate a longer than normal period before the buyer takes possession)....or convert the home to a rental long enough for the lender to take into consideration the rental income as part of your finances.

Not trying to sway you one way or the other but making the point that owning the first home (or rather the mortgage) can put you in an inflexible position as a 2nd time home buyer.  If it's important for you to be able to later move quickly (on a deal) and also get great financing when your long-term house comes available, renting may be a good option.  One other thing to check on is FHA homebuyers incentives.  If you qualify and plan to use that resource, it may worth seeing how valuable it is in each scenario.  You may not want to "waste" those benefits on your first home if you know you'll be looking for another soon.  My wife and I both owned homes before marriage.  She had already gone through FHA for the loan on the first home that she only lived in a few years before we met and married.  I remember us wishing when we bought one together that we could still have that FHA option available to us.  I did not have an FHA loan before, but as long as her finances were considered and her name was on the 2nd mortgage, that disqualified us from that program.  Small, but maybe not trivial option to research.

Not sure about your second question.  I've only "upgraded" homes once and was able to secure great financing for the larger family home while still holding a mortgage on the first.... because the value of both homes combined (and the mortage/value ratio) was significantly less that most people in my financial position would have pursued.  I'd say that's common among mustachian types.  Not to derail the thread, but I am curious how many others here who have owned more than one home bought the next with/without selling the previous.

[Doulos]

Whether you rent an apartment or buy a house, either way, I would still suggest joining a Community Garden, if you interested in farming.
https://communitygarden.org/

Definitely a great way to both help and gain the support of your community.