- The Washington Times - Friday, January 5, 2001

Are you ready to buy a home? If you have been renting in the Washington area for any length of time, you may have noticed that rental costs are up and apartment availability is down. Even in a very competitive home-buying market, many renters are finding it is time to make a switch.
They're in good company homeownership is at an all-time high of 67 percent nationwide.
How do you know if buying is right for you and if you are financially prepared to make such a huge commitment?
"There are four basic questions I ask people who are interested in buying," says Jim Smith, a certified financial planner with Trusted Financial Advisory Services in Falls Church.
How long will you live there?
Before you get to the financial stuff, it's important to determine whether buying a home even makes sense for you right now.
"The first thing I ask prospective buyers is: How long will you live in this area? If you don't plan on staying in a house more than five years, you are putting your downpayment at risk," Mr. Smith says.
Prospective home buyers who work for the military or a company that has a habit of transferring employees should think carefully about buying property to live in. Selling a home two years after you buy it can cost you money.
"My biggest fear for transient folks is that they won't stay in a home long enough for the appreciation to overcome the sales commission," Mr. Smith says. "If your home doesn't appreciate more than 6 percent before you have to sell, you could end up paying money instead of making money."
Appreciation of more than 6 percent is important because that's what a Realtor usually charges as a sales commission. Sure, you can try selling the property yourself. But finding a buyer might be difficult, and savvy shoppers probably will want at least a portion of your 6 percent savings.
Many Washington-area homeowners who bought two or three years ago would be able to sell right now with a profit of more than 6 percent. That's because this area recently has seen the most rapid appreciation of residential real estate since the 1980s.
"I was just at the home of some clients who bought seven months ago," says Daniel Falk, owner of Daniel G. Falk & Associates, a Virginia accounting firm. "They put $60,000 into that $470,000 house, and it just appraised for $750,000."
Buyers today should not count on that kind of appreciation. A lot of homeowners were stuck in overpriced homes in the early 1990s because they bought at the peak of the '80s market.
"We are at risk of entering a down market in the next few years," Mr. Smith says. "If that happens, and you aren't going to stay in a home five years or more, buying might not be such a great deal if you are happy with your rental right now."
"The second part of the question is: How long will the home serve your needs?" Mr. Smith says. A young couple without children may do fine in a small two-bedroom home. If you add a dog and a couple of offspring, however, things will get tight.
"In those cases, it's often better to buy a larger home that you'll be able to stay in for a while, even if it stretches the budget a little," Mr. Smith says. "Buying and selling frequently is not a good way to build home equity."
Young buyers who work in secure jobs may feel comfortable buying a home that's a little larger than they need today.
"I advise people in the early part of their earning history to stretch their spending on a home a little bit," Mr. Falk says. "Money may be tight for a year or two, but a home is something that will increase in value, unlike a car. I often tell clients to hold onto their car a little longer. Drive it as long as you can and put your new-car money into a home instead."
How is your credit?
If buying a home makes sense for you now, you probably will need to borrow some money. Very few people have a few hundred grand lying around, right?
Whether you are a first-time buyer or an old pro, you will need to convince your lender that you are a good credit risk. Lenders will be providing you with hundreds of thousands of dollars for your home purchase, so they have a right to make sure they are making a safe investment.
They check your credit credentials by looking at a credit report, which is generated by one of the three national credit-reporting agencies: Experian, Equifax and Trans Union. These companies compile information reported to them by lenders, credit-card companies and utilities. If you have made your payments on time and don't have excessive amounts of debt, your report should look quite clean. This is important because a borrower with a good credit history probably will get a lower interest rate and will have more freedom in making loan choices.
If you make a credit-card payment more than 30 days late, it will show up on your credit report and stay there for several years. One or two late payments shouldn't prevent you from buying a home if your financial picture is healthy otherwise. Too many late payments, however, can make it expensive or even impossible to get a mortgage.
"It's really no different than buying auto insurance," Mr. Falk says. "If I have had three accidents, of course I should pay more for auto insurance than someone who has had a clean record for 20 years. Most buyers can get a mortgage these days, but some will pay a higher interest rate because of their credit score."
The newest way lenders assess the credit worthiness of potential borrowers is by using credit scoring. While underwriters look at an applicant's total financial picture, credit scores provide a kind of summary of credit worthiness.
Credit scoring came about to make applications faster and cheaper. Now that computers do the bulk of the analysis, people with good credit histories can get loans approved in a few hours in many cases. Fortunately, a credit score will never be used on its own in the approval process, and there is no "pass/fail" mark you must exceed to get a loan. Lenders take your entire financial picture into account when they make underwriting decisions.
If you aren't sure what your credit report looks like, it's well worth your time to order a copy. (See the "More info" box for contact information.)
Consumers who are suffering from damaged credit may want to contact a credit counseling service for help. Nonprofit organizations committed to helping consumers offer free or low-cost counseling by telephone, on the Internet and in person.
If your credit is in good shape but you don't know how a home purchase fits into your overall financial goals, a Certified Public Accountant (CPA) or Certified Financial Planner (CFP) can help.
"CPA and CFP firms generally bill by the hour," says Ernest Miller, a CPA in Mr. Falk's office. "You'll spend $60 to $200 per hour, depending on who in the office you work with." A few hundred dollars could be a wise investment, especially if you are considering a purchase worth a few hundred thousand.
Many loan officers also will provide brief financial counseling to potential home buyers because they want to lend money. That doesn't mean their counseling will be flawed, but they do have an ulterior motive.
"It really is worth your time to talk things over with a CPA, because we have no financial interest in your decision to buy or rent," Mr. Miller says.
Where's the money going to come from?
Just as you have to pay a security deposit when you rent, you will have some upfront costs when making a move. Home buyers need to have a significant chunk of change saved for a down payment and closing costs.
"Many young people just don't have the money to put down," Mr. Miller says. "A lot of buyers receive a gift from a parent or relative in order to make it happen."
Because of the huge variety of loan programs available today, many home buyers pay as little as 3 percent to 5 percent down instead of the once-standard 20 percent. First-time buyers in the Washington area put down only 9.8 percent on average in 1999, according to Chicago Title.
Closing costs vary widely. To be safe, plan on spending 3 percent of the home's selling price. Many sellers offer to pay closing costs to sweeten the deal, but this has become less common recently because Washington is in such a profound sellers' market.
"If you are planning to buy any time soon, you need to think about where the down payment and closing-cost money is right now," Mr. Smith says. "Renters who plan to buy in the next few years should keep down-payment funds in a stable-value savings vehicle, like a money market, short-term treasury bills or CDs. You don't want your home-purchase savings in the stock market."
Besides the upfront expense of purchasing property, don't forget the ongoing costs of being a homeowner.
Many communities have monthly homeowners association fees, and maintenance of your property will be your responsibility not a landlord's.
"It's easy to forget details like private mortgage insurance, association fees, routine maintenance and home decorating," Mr. Smith says. "Furnishing a home is particularly expensive if you move into a brand-new home. Most new properties are pretty bland and will need a fair bit of personalization."
How much can I afford?
Finding how much money you can borrow to buy a home is a simple math problem. To get a good idea of how much you can afford, use the "28/36" rule of thumb. Most lenders are uncomfortable making a loan if your monthly housing costs would exceed 28 percent of your income or if your total debt load (housing, car loans, credit-card payments, student loans) would rise above 36 percent.
Consumer debt often is a stumbling block for first-time buyers. Even if you have a stable income, high credit-card balances, student loans and car loans can severely reduce your purchasing power.
"It's my perspective that home buyers should first get rid of any personal loans and credit-card debt especially anything with an interest rate over 10 percent," Mr. Smith says. Student loans are an exception. The interest rates usually are fairly low, and a new provision allows many people to deduct some of the interest payments on their taxes. (If your income in 2000 was less than $55,000 for singles or $75,000 for married couples, you may deduct up to $2,000 of education-loan interest payments on your federal income tax.)
For a rough idea of your purchasing power, simply multiply your income by .28. If you make $50,000 per year or $4,167 per month you can afford to spend about $1,167 on your monthly mortgage. That is, very roughly, enough to buy a $170,000 home.
Be careful to calculate what you can truly afford, however, not just how much you can borrow. Overextending yourself in a home purchase is a good way to get in a bind and imperil your future home purchases.
"I had a couple who came to me recently, asking me to go through their budget and help them determine how much they could afford to spend on a home," Mr. Smith says. "That's smarter than simply going to a lender and say[ing] 'How much will you lend me?' You should never buy a home so expensive that you put at risk your ability to make the payments and meet your other expenses."
How much you should borrow also depends on where you are in life.
"If a person is 55 and on the downside of their earning potential, we advise them to be more conservative in what they buy," Mr. Falk says. "It might be harder to afford an expensive home after retirement, so it's better to lower your expectations a bit."
Young couples often need to lower their expectations, too. Though it is important for new families to buy a home that will accommodate growth, they shouldn't set their sights too high.
"Some young people believe they need to buy the same home their parents have today," Mr. Falk says. "They don't want to settle for a little Cape Cod as a starter house. But affordable homes really are a great way to begin building toward that big home of your dreams."


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