After living in rented spaces for the first decade of our adult lives, my husband and I were eager to buy our first home. Comparing the cost of renting versus the cost of buying a home in the Midwest where my husband Mike attended law school, we decided there was no reason not to buy our first home.
Mike was more savvy than I was about buying houses (and finances in general), so I followed his lead. And I’m so glad I did!
We actually made some pretty great financial moves as first-time home buyers.
As we are anxiously saving up for our second home (after spending 4+ years hunkering down in my in-laws’ unfinished basement with our four little ones while we paid of massive student loan debt), it’s good for me to reflect on our wisdom from earlier years.
1. We ignored the loan approval amount.
The normal first step in buying a home is getting pre-approved for a mortgage. The pre-approval amount gives an upper limit to the mortgage you qualify for.
It can be tempting to buy as much house as the bank says that you can afford, but we made it a point not to do that.
In fact, I don’t even remember what the loan approval amount was because we didn’t focus on it at all. We went in knowing what our needs and wants were, and tried to spend on the low end of that range.
Don’t let a lender try to tell you what your house budget should be!
2. We made a 20% down payment to avoid PMI
Instead of shopping with a ceiling purchase price (a loan pre-approval amount) in mind, we focused on finding a property where we could put 20% down. In fact, we made a 20% down payment non-negotiable in our search. We wouldn’t even consider any homes if we couldn’t make a 20% down payment.
Since my Mike worked for about two years between college and law school, we had some money saved for a down payment. We were pleasantly surprised to find a property where we could make an $18,500 down payment without trouble.
3. We got a 15-year (instead of 30-year) mortgage
Mike was pretty adamant about getting a 15-year mortgage instead of a 30-year mortgage. When we ran the numbers it really was a no-brainer. With a 15-year mortgage our payment was $595. A 30-year mortgage at the same rate would have left us with a $409 monthly payment. So we were paying just a little more each month. The total difference was $156 per month.
I should also mention that that amount was strictly the mortgage payment. We took care of our own insurance and tax bills as they came due rather than having them in escrow, which meant we were holding onto our own money for longer.
The clincher is when you look at the interest over time on a 15-year vs. a 30-year mortgage.
If we had stayed with our $74,000 mortgage for the full 15 years, we would have paid a total amount of $107,000. The same $74,000 over a 30-year loan would have totaled $147,000. We would have ended up paying as much in interest as principal.
But we weren’t there for the full mortgage term. We knew we would only be in the home for four years. On a 30-year loan, over those four years we would have paid $19,632, and over $15,000 of it would have been interest payments, leaving us with about $4,500 of equity.
Under our 15-year mortgage, we paid a total of $28,560, but over half of that was paying down the principal! We ended up with $14,500 in equity instead of $4,500. We did pay about $7,500 more over the four years, but because we also paid off $10,000 more in principal, it essentially gave us an additional $2,500 of equity over the 30-year loan.
It’s actually even better than that though. Choosing a 15-year mortgage also gave us lower interest rate than a 30-year mortgage could. All our 15- vs. 30-year comparisons above estimate an equal rate between the two mortgage terms. Since the actual rate of a 30-year loan would be higher than a 15-year loan, the longer loan would cost even more in interest than shown above. I’m not going to recreate all those numbers now, though.
We even refinanced our home about a year and a half in, which knocked 1.5% off the interest rate. Of course we made sure to look at how long it would take to recoup the cost of refinancing to make sure it would be worth it. It only took a couple of months to earn back the cost of the refi, because the bank subsidized most of the actual costs.
4. We bought with the resale in mind
We knew we would only be in our home for the time it took Mike to complete his JD and MBA programs. In four short years, we would be on the selling end, instead of the buying end. There were many homes we looked at that had quirks that wouldn’t have been deal-breakers for us (we’re pretty good at dealing with quirks, in case you didn’t notice), but may have caused trouble when it came to selling the house.
In the same vein, we looked for a house that was turn-key. Although Mike is pretty handy, we knew he would be up to his eyeballs in school work and would not have time to upgrade or remodel a home.
Seeing the prices and possibilities of the fixer-uppers was definitely tempting, but we resisted. I don’t know how many times through those law school years I said to my Mike, “Aren’t you glad we didn’t get a fixer-upper?”
Don’t get me wrong, for people who are passionate and skilled in the fixer-upper department (like Jane and her husband), getting a home that needs work is definitely a great route to go. For us, though, we knew we wouldn’t have the time or liquid funds to do significant work on our future home.
The 900 square foot house that we ultimately bought, was smaller than we had hoped for, but it was in lovely condition in a safe and friendly neighborhood.
5. We took advantage of the First Time Home Buyer Tax Credit.
Now you might think this is a no-brainer, because who wouldn’t take what was essentially a $7,500 interest-free loan from the government? The only “catch” was that $500 of that amount would need to be paid back each year at tax time.
That was in 2008. Who would have known that in 2009, the $7,500 for first-time home buyers would be for keeps?!
Unlike some folks who used their $7,500 for home improvements, fancy furniture, or a new wardrobe, we put ours to work for us. We invested the money so that it was conveniently available when we needed to pay the remaining amount back upon selling our house.
The good news? Since we took a slight loss on our house, we actually ended up being able to keep the remainder of the credit.
In fact, it’s that mature CD that we used to pay off our first student loan way back before we were even serious about paying off student loans. The mature CD just happened to be the right amount to pay off one of our loans, so, kind of on a whim, we just did it. Since we hadn’t read the fine print that explained that if we sold our house for a loss we wouldn’t have to pay back the money, we never really considered that money “ours” anyway, so that made it easy to part with.
Our Current House-Buying Situation
Our situation is vastly different now than eight years ago when we were buying our first home, though we’re technically first-time home buyers again since it has been so long since we owned a house.
Unfortunately that first-time home buyer status doesn’t bring any big perks these days.
The biggest difference in our situation is our location. The total price of our first home is roughly what a 20% down payment will cost us for what we’re looking for here in California! Our smooth financial moves of 20% down and a 15-year mortgage seem pretty well out of reach in these parts. We’re not giving up the possibility though.
We’ll keep you in the loop!
How about you?
- What smart financial home-buying moves have you made?