Mandelman’s Best Home Buying Advice
Are you thinking about buying a home this year or next? Well, I’ve been following the housing market throughout the foreclosure crisis, since 2007, and I thought I’d offer some advice… a way of thinking, if you will, in an effort to help homebuyers not make mistakes in what has been, and is sure to continuing being, a very unstable or uncertain market.
There are many good reasons that people might want to look at buying a home theses days. Interest rates are still low and likely to remain so for some time. And with home prices having gone up to some degree over the last couple of years in many areas, it could be a good time to sell and move into something more affordable.
This is especially true for older homeowners, especially those with equity who are over 62, because they’re eligible to use a HECM for Purchase reverse mortgage, which can mean they don’t have to make a monthly mortgage payment on the new home, while holding onto as much of their cash as possible.
When you use a HECM for Purchase to buy a home, you only have to put something like 50 percent down, less if you’re older, and the reverse mortgage picks up the balance.
I’ll give you a real life example… his name is Alan and I helped save his home from foreclosure by getting his traditional mortgage modified over three years ago now. His modification was a great one… the servicer reduced his principal by roughly $340,000 and gave him a 2 percent fixed rate for 40 years. It simply doesn’t get any better than that, right?
Now, here we are more than three years later and Alan, who is now 63, is working nights driving for Uber to make his mortgage payments of a little under $2,000 a month. He’s gone through his savings years ago, and as a result has nothing to speak of as far as a nest egg is concerned.
He called to see if there was anything I could do to make his situation better, but I explained that since he still owes $390,000, he wouldn’t be able to to use a reverse mortgage to eliminate the need for him to make monthly payments… the most he could get from a reverse mortgage would be about $300,000… and since the bank already reduced his principal and gave him a 2 percent rate… they wouldn’t be able to do anything to reduce his payment further.
But, I also explained that his situation would not be getting better… he’d have his same mortgage payment for the next 37 years. And 10 years from now, after making what would mostly be interest payments to the bank, he might only owe $375,000. And 10 years from now, when he’d be 73, it wouldn’t be any easier to keep driving at night for Uber.
However, Alan has about $300,000 in equity, after his principal reduction and home appreciation in his area over the last couple of years. Inventory remains low in his neighborhood, so it’s not a bad time to sell.
I showed Alan that were he to sell his home, he’d walk away with roughly $300,000, he could then use some or all of that money to purchase a home using a HECM for Purchase, which is a government insured reverse mortgage.
Let’s say he found a home he liked for $500,000. He could put $250,000 down and buy it using the HECM mortgage and going forward he wouldn’t have to make any monthly mortgage payments if he didn’t want to. Yes, he’d still have to pay property taxes and insurance, but he has to pay those amounts no matter what.
Then, if he wants to keep working, he can put away the $2,000 a month he’s required to pay now, which could allow him to save $24,000 a year… and in 10 years, his nest egg would grow to several hundred thousand dollars. Or, he could choose to make interest only payments on the HECM reverse mortgage, in which case his equity in the property would stay the same or increase as the value of the home increased.
And this next part is not only true for homeowners over 62… it’s true for all homeowners and I think it’s important that all homeowners today know it.
There are three ways to increase the equity in a home you own. One of the ways is via home price appreciation… the home’s value increases over time. And that seems to be the way most people are familiar with increasing their equity. But it’s also something completely outside your control as a homeowner.
The other ways to increase your equity are to improve your property’s value, either by…
- Adding onto it… let’s say by adding a room addition, or enclosing a patio… or by fixing it up, perhaps by remodeling the kitchen or bathrooms… putting in a pool… things like that.
- Or, by paying down the principal amount owed on the mortgage ahead of schedule.
Those two methods of increasing home equity are entirely within a homeowner’s control, and both are virtually bullet proof ways of increasing your home equity. Home appreciation, which is not within a homeowner’s control should happen over time as well, and probably will… but it should be viewed as icing on the cake, not as any sort of guarantee.
What that means is that when shopping for a home, if you can find one that allows for improvement in some meaningful way, you’ll have the ability to improve it over time and therefore increase the amount of equity you have in the home. On the other hand, were you to purchase a home that’s already all fixed up and can’t be expanded, you wouldn’t be able to increase your equity by improving its value and therefore are depriving yourself of a sure-fire way to increase your equity over time.
In addition, buy purchasing a home that can be improved, you’ll also be spending less on the property, which will make it easier to pay down the principal, which is the other guaranteed way to increase your equity in the property. Maybe you can make 13 payments a year instead of 12… or maybe you’ll inherit some money or get a bonus at work and be able to put some of of that windfall into the home by paying down principal.
And now let’s go back to the case of those over 62, like Alan in the example above.
Some homeowners may be able to use the proceeds from a sale or reverse mortgage to put a rental unit on the property, which could mean having additional rental income to supplement Social Security throughout retirement, and would increase the property’s value and therefore increase the equity position in the home.
I realize that not everyone can put a rental unit on their property, but many can… and doing so can change the most important factor in retirement… how much money you receive each month once you stop getting a paycheck from work. Using a reverse mortgage to accomplish that objective can make a huge difference in someone’s monthly income, without that homeowner having to make a monthly payment on the loan.
There’s a lot to think about when it comes to buying a home, and likewise when it comes to planning for, or surviving your retirement years without running out of money, or being forced to live on Social Security alone, in terms of monthly income. And we should all have learned a few things from the meltdown in home values that started in 2007, and continues to plague our economy today.
So, to recap…
- Don’t buy what you think you can afford today. Instead, buy what you can afford to improve, so you can be assured of increasing your equity over time through meaningful improvements or by paying down the principal.
- And if you’re 62 or over, and you’re looking to downsize, for heaven’s sake, consider using a HECM-for-Purchase to finance the property. That way, you’ll keep your cash in your own bank account for as long as you can. Retirement today is measured in decades, not years… and running out of money at 83, while living until you’re 93, is something no one wants to be in their future.