One of the most important financial decisions that can impact your future finances is whether you will buy or rent a home. The question of owning or renting an abode is not an easy thing to answer because there are many considerations that need to be factored into your decision. It’s also an intensely personal issue. The decision to rent a house may be good for your brother but bad for you. Because there is no one single answer to fit every person’s situation, the question of renting or owning becomes more complicated.
This is why you should take the time to determine which among the two is best for you. To guide you in making your decision, try answering the following questions:
1. How sure are you about staying in a particular place for the long-term?
If you are sure that you are going to be staying in the city you are living in now for the next ten years at least then you are better off living in your own home. A thirty-year fixed rate mortgage is going to remain the same for the entire life of the loan. In the next ten years of renting, however, your rent is going to climb up as the landowner tries to keep up with inflation. Renting only makes sense if you are not certain that you will be staying in a particular city or town in the next decade or so.
2. Are you stable in your job?
If you are already stable in your career and know for certain that you will not reassigned somewhere else then you should consider buying a home. It won’t make sense to keep on renting if you are sure that you will be working for the same company until you retire. Over time, the monthly mortgage payments are going to give you returns through the equity you build in your home. While you should think long and hard before you draw upon this equity, it could still be a source of funds when you encounter financial difficulties. With renting, the monthly payment you give to your landlord is gone forever.
3. How’s your credit?
If your credit report features many blemishes that may affect the loan amount or interest rate that you get in your mortgage, it may be better to rent for the meantime. For instance, previous foreclosures and bankruptcies which still appear in your credit report are going to be detrimental to your application because even if your mortgage gets approved, you’re sure to be paying a lot more in interest than someone whose credit record is clear.
A history of delinquencies is also going to adversely affect your application so it’s much better to rent for the meantime while you take steps to increase your credit score. You can pay off your credit card bills and other obligations on time and try to lower your overall debt burden to help bump up your credit score.
4. Can you afford to be a homeowner?
Homeownership entails a lot of expenses other than the mortgage payments so you should ask yourself if you are ready for these costs. For instance, if the pipe leaks, you’ll be calling the plumber and paying him from your own pocket. You won’t have to do this when you’re renting because all you need to do is call up the property manager or landlord and he will take care of calling and paying the one who will do the repairs. In addition to these expenses, you also need to spend for maintaining your home and the surrounding lot—something that you rarely need to do if you are renting. So if you’re ready to spend for everything for a home, then homeownership is for you.
5. Do you want to maintain the autonomy of the place where you live?
When you are renting, you cannot do anything as you please with your property. Any repairs and modifications you want to do will have to be approved by the landlord—and there’s a big chance that it won’t be allowed. If you are the type who wants to remodel and renovate your place to reflect the latest trends in home design, you’re better off as a homeowner than a tenant.
Determining How Much House You Can Afford
Once you have decided that you want to become a homeowner, the next thing that you should consider is how much house you can afford to buy. Lenders generally determine this by considering factors as your credit score, debt-to-income ratio and downpayment amount. Let’s look at them one by one:
One of the most important factors that will be considered by lenders is your credit score. This score, which ranges from around 300 to 850, is a reflection of your payment history, your overall debt level, the amount of time that you’ve had credit, the kinds of credit you have and any applications you may have for new credit.
With all other factors being equal, you’ll generally get better rates for your mortgage loan if you have a higher credit score. Thus, a score ranging from 300 to 550 will rarely get you approved for a loan because this is considered a poor credit score by most lenders. Getting a housing loan with a score of 550 to 620 may be possible but you’ll most likely be able to obtain it through a subprime lender which will ask for an interest rate of nearly ten percent. If you can wait, it is much better to take steps to bring down your debt level and increase your credit score first before applying for a loan. An acceptable credit score would start from 620 and you’ll be able to get a mortgage with decent interest rates of a little over five percent. Those with scores from 680 to 740 have good credit and can likely bring down the interest rates to just a little over four percent. Borrowers with credit scores ranging 740 to 850 have excellent credit and can lower the interest rates even more to just under four percent.
It’s always better to strive for a higher credit score because you’re not only going to reduce your interest rates, you’re also going to pay much less for insurance and bring down your credit card and car loan rates as well.
Your debt-to-income ratio (DTI) is another factor that lenders will look at when determining how much house you can afford. This will help ensure that the income you have will be sufficient to pay for your new mortgage as well as for any debts that you already have, including student loan, car loan and credit card loan payments. The DTI is computed by getting your total monthly debt payments, with your anticipated monthly mortgage already factored in, and dividing it by your monthly gross income. They generally prefer your total debt load not to go beyond 36 percent of your gross.
The downpayment amount that you give for the housing loan is going to matter in your mortgage application. If you obtain your housing loan from the Federal Housing Administration (FHA) then you can give a downpayment of 3.5 percent of the home’s price tag. For traditional lenders, a downpayment of 10 percent to 20 percent is usually required. The interest rate is going to be favorable if you have a higher downpayment.
The downpayment amount is separate from the closing costs which, as its name suggests, is going to be paid for when the home closes. Closing costs usually range anywhere from 2 percent to 5 percent of the sales price of the home.
Buying a home is no doubt one of the biggest decisions you can ever make. When you purchase a home at the right place, the right time and the right state of your finances, it can be one of the smartest financial decisions you can make. Purchasing a house allows you to save money for the future because with every mortgage payment you make, a part goes towards the equity in your home. As you build up your home equity, you are able to tap it when you need it, especially during your retirement. Of course, tapping on your home’s equity should only be considered as a last resort and should not be done lightly. However, it’s reassuring to know that you have this source of funds when you really need to in the future.
That being said, homeownership is a decision that you should go into only when you are ready emotionally, psychologically and financially. If you feel that you are not ready to do so, don’t rush the issue. You might only regret the decision later on when you find that you can’t afford the monthly payments or realize that you want to relocate somewhere else. Renting is still the recommended option when you’re still contemplating on becoming a homeowner.
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