Welcome to Amjambo’s series on homeownership. Topics include advantages and challenges, questions to ask, finding a realtor, deciding where to look, inspection, the bidding process, and closing on a home. If you have questions about renting vs. buying – or anything related to the finances of home ownership – drop us a line at: [email protected]. Our financial experts will do their best to respond. 

Homeownership has advantages, responsibilities 

The Musuamba family’s path to home ownership began in 2017, when Bright Musuamba,  currently program manager at ProsperityME, took financial education classes along with her mother and her brother at ProsperityME. In class they learned all about the U.S. financial system, including how to budget and build a credit score. And in 2021, the family purchased their first home. 

For some, achieving the American dream means owning a home. But how much does that cost, and what makes it possible? In this edition, we will look at what’s necessary to buy a house and how it can be achievable. 

One important consideration when buying a house is how much housing expenses you currently pay. The total monthly rent for an apartment could be used as a large part of a mortgage payment on a house. Usually a mortgage is necessary to purchase or maintain a home, land, or other real estate. While renting has many positives, owning a home and paying a mortgage helps build equity and wealth. 

Your income will impact the type of home you can afford to purchase. Generally speaking, lenders consider your income to determine how much money they will lend for a mortgage. The income could come from a variety of sources – employment wages, self-employment, retirement, or Social Security, to name a few. A way to assess the amount you can afford is to talk to a mortgage lender. You can contact a mortgage lender, even before you know which home you would like to buy. Getting preapproved will help you know what your monthly payment is likely to be, how much of a house you can afford, and if you qualify for a mortgage loan in general. 

Your credit score is integral to determining the interest rates and potential fees associated with any loan you can obtain for purchasing a home. A credit score is based on a variety of factors, including payment history, age of credit, and credit usage. A high credit score can contribute to getting the best possible rate on a mortgage, which saves money over time and also allows for a lower monthly payment. An immigrant new to the country might not have a U.S. credit score yet because they have not yet established a lending history. In the case of mortgages, Maine has a program that helps people through the application process.  

Someone with a low credit rating can take steps toward improving it before applying for a mortgage loan. To learn more about building good credit, see www.amjamboafrica.com/building-credit 

In addition to an adequate income and a good credit score, the down payment is another important factor in affording a home. The down payment is an amount of money you are able to pay upfront toward purchasing the property. The more money you can put down, the smaller the amount you need to borrow, which will lower the monthly payments. More money contributed toward the purchase could also help you avoid certain fees that may be assessed on special loan programs that allow smaller down payments. However, talking to a mortgage lender about the many different mortgage loan options is always a great idea. Sometimes the fees are minimal and purchasing the home sooner rather than later is worthwhile. 

A homeowner is responsible for all recurring and nonrecurring expenses of a house. Some of these are similar to renting – such as electricity and heat – but others may be a new responsibility – if the furnace needs to be replaced, for example. Having enough money saved for these costs is a good idea, as many of them can happen unexpectedly. 

Buying a home is an investment that can yield long-term wealth and security, especially for those who are already paying rent. Owning property rather than renting offers financial advantages, too. Money used on rental payments could be put toward mortgage payments instead – helping to build equity in the process. 

Ask these questions before buying a home 

Buying a home can be exhilarating and liberating, and for many, signifies the realization of the American dream. But it can also be daunting or scary, with buyers likely taking on the largest debt of their lifetimes. Becoming a homeowner is a major decision and commitment. Here are five questions to ask yourself before buying a home: 

Do I have a stable income? 

One of the most important considerations is whether you have a reliable source of income. This will be crucial in making the monthly payments on a mortgage. Also, a history of dependable income is often a deciding factor in whether or not a lender will offer a mortgage. Figuring out the security of your job or income can be tricky to determine, but aspiring homebuyers need to feel comfortable that their employment status and income are secure for at least the next few years. A general rule of thumb is that total housing costs should not exceed 30% of the household’s take-home pay.

Is my credit in good standing? 

Credit is the ability to borrow money to access goods or services, with the understanding that the borrower will pay it back later. Before granting any credit, lenders determine the borrower’s creditworthiness – or how likely you are to pay back the money, in full and on time. Creditworthiness is represented by a credit score, which is a number between 300 and 850. The higher the score, the better your creditworthiness. Those with a low score may have difficulty qualifying for a mortgage. Those with a higher score will be offered better interest rates and loan terms, which can translate to substantial savings over the life of the mortgage. Someone with poor or fair credit may want to consider ways to improve their score before buying a home. To learn more about credit, consult Amjambo’s finance column archives at amjamboafrica.com 

Do I have an emergency fund? 

The monthly mortgage payment isn’t the only cost aspiring homeowners need to consider. You also should plan for regular costs such as homeowners insurance, utilities, and taxes. Some costs associated with owning a home aren’t predictable. These include repairs – examples are a burst pipe, a shattered window, or a broken appliance; the list of possibilities is long. You also could find yourself suddenly out of work. Whatever the case, having an emergency fund can help you keep up with payments and make necessary repairs without falling into debt. A general rule of thumb is to have at least three months’ worth of living expenses saved away to cover emergencies. 

Do I want to stay in this area long term? 

Before buying a home, determine if you see yourself living in that home for five or more years. Experts recommend people stay in their purchased home for at least five years, which gives them a reasonable chance of breaking even on the purchase. Waiting five years would allow the home to increase in value enough to offset the closing costs, agent fees, and other expenses of buying and selling a home. If you don’t think you’ll be in the same home for five or more years, think twice about making the purchase. 

Am I ready for this level of responsibility? 

Becoming a homeowner is a huge responsibility. Most people who purchase homes take on a large debt, are faced with maintenance and repairs, and often need to make sacrifices to get the mortgage paid each month. For example, if you aspire to a college education, or travel, you need to make sure you could still afford the mortgage payment. Becoming a homeowner increases your list of responsibilities. For some people, waiting to buy a home may be best. However, for others, homeownership can be incredibly rewarding. 

Building vs. buying a home 

When people decide they want to own a house, they sometimes consider building a new one. In fact, building a home does have advantages, but so does buying an existing home. And both options have disadvantages as well. Time and money are significant factors. In Maine, the average cost to build a home is nearly $552,000, while buying an existing house can be less expensive, at an average of $375,000. Building a house takes at least a year, and usually much longer. So, looking at the pros and cons of each option is essential before making the decision. 

When you build a house, almost everything can be customized and suit the buyer’s needs. The property’s location can be handpicked, and can include a large garden or outdoor space for children to play. Additionally, the layout and all the fixtures can be tailored to closely suit the new property owner’s needs and tastes. For example, some people want a cook’s kitchen, large walk-in closets, a finished room in the basement, or a high level of energy efficiency. Because the house is new, there should be no worrying about remodeling or maintenance costs for many years. 

On the other hand, building a home can pose problems. Interest rates could well fluctuate while the house is being built, before the buyer can lock in a rate. If the rates increase substantially, this could add hundreds of unanticipated dollars to the monthly mortgage payment. If the rate goes too high, there is even a chance that the buyer will no longer qualify for loans for the home they are already building. Also, material and labor costs can fluctuate. For example, a builder may give an estimate of $15,000 to design the kitchen, but by the time the project is finished, the total bill could end up being much higher and might need to be paid out of pocket. The buyer also must manage the project, which means constantly checking in with the builder, and this takes a great deal of time.   

Buying an existing house offers some advantages. A real estate agent can help navigate the buying process and can advocate for the buyer, and this partnership can particularly help a first-time home buyer who might otherwise feel overwhelmed. The agent and buyer work together to keep an eye out for the right property, and when it becomes available, they can move quickly to make an offer and enter into negotiations. The real estate agent can help the buyer compare the price of the home with other existing homes in the area to get the best price possible. And after closing the sale, the new buyer can move in quickly, and may be able to time this with the end of their current lease, rather than waiting for months or even years while a house is built. A buyer can purchase a home with plans to redo part of it, either in the near or distant future. Knowing ahead of time what items will be rebuilt can make managing costs easier. 

So what are the downsides to buying an existing home? One is that the buyer may only get some of the things that are on their wishlist, or need to make upgrades after the purchase. And older appliances and other features could mean higher maintenance costs. For example, the buyer might move in and immediately need to replace the hot water heater or get a new stove because the older one isn’t working correctly. These unexpected costs can be a pricey surprise, and sometimes there is a wait to find a contractor available to complete the work. Many homeowners pay for updates with savings, but some loan options could help new homeowners. When buying an existing house, an inspection is a must – to minimize possible surprises after the sale is concluded. 

When deciding between building and buying a home, consider these pros and cons, and think about time and budget constraints, the importance of customization, and the potential for costs associated with remodeling or maintenance after moving in. 

Pros, cons of buying a home in foreclosure 

Most people who are thinking about purchasing a home are advised to take their time, explore all options, and thoroughly research. One option is purchasing a home in foreclosure. Much like any property purchase, buying a foreclosed home is a big investment, and it’s important to think carefully before making any decisions. 

What is foreclosure? 

Foreclosure is a process that begins when someone fails to make their mortgage payments. After the borrower is more than 120 days past due on their payments, the lender can notify the borrower about foreclosure proceedings, which can ultimately lead to the lender seizing the property. This means the lender can take ownership of the mortgaged property and sell it to recoup the money they’re owed. If the borrower successfully pays off their deficiency balance before the home is seized, any plans of eviction and sale are canceled. However, if they don’t pay off their deficiency balance, they can be asked to vacate the property, and the lender can list the home for sale. 

How do people purchase a foreclosed home? 

People can find foreclosed properties for sale in their local newspaper – it’s a requirement for the lender to publish a “Notice of Sale.” Foreclosed homes are often listed on traditional real estate websites, such as Zillow, Redfin, and Trulia. Listings for foreclosed homes may also be listed on credit union and bank websites. However, before they are listed for sale on traditional real estate listing resources, foreclosed homes can be purchased at auctions. The auctions can be found through searches of city or county public records, local newspapers, or through foreclosure-specific websites, such as auction.com or foreclosure.com. When an auction is held, the minimum bid typically represents the amount owed to the lender, plus fees. The home is then generally sold to the highest bidder. 

What are the pros and cons? 

Lower pricing possible – One of the largest benefits of purchasing a foreclosed home is that they’re almost always priced less than other homes in the area. This is because the lender simply wants to recoup the money they’re owed, which is the remaining amount of the mortgage that wasn’t paid. The price will vary depending on the location and condition of the home, and how much the previous owner still owed on the house. If the home is being sold at an auction, the price will be determined through bids. However, even when there is bidding from multiple interested parties, the final sale price is traditionally lower than market value. 

Potential investment opportunity – If someone is a first-time home buyer, they may be interested in purchasing the home at a low price for themselves. Foreclosed homes can also be investment opportunities, since they are traditionally priced low, and a buyer can purchase the home, make renovations to increase its market value, and then sell the home for a profit. 

Financing not always an option – Unlike most real estate transactions, where the buyer secures financing at a credit union or bank in the form of a mortgage, foreclosure sales don’t always accept financing. This is especially true if the home is being sold in an auction, where cash is usually required. If someone has the cash, it can be a great way to purchase a home at a significantly lower price. However, coming up with that much cash in-hand is difficult for most people. Loans may be available, but the lender might be more hesitant to finance a purchase – especially if the home has been vacant for a while or has damage. 

Highly competitive market – The market for foreclosed homes is highly competitive. After all, foreclosures are homes being sold at an often-substantially lower price, so it’s easy to understand why people are drawn to them. If the home is being sold at an auction, people may find themselves in a bidding war with others who also want a low-cost home. 

Inspections not always available – A lot of foreclosed homes are sold as-is. That means people often need to forfeit their chance at having the home inspected. With the market being so competitive and lenders wanting to sell the home as quickly as possible, the option for inspections are often off the table. This means buyers might not be able to see undocumented damage or areas in need of repairs before purchasing. If inspections are not allowed, aspiring buyers should weigh the pros and cons of making such a large purchase as-is. 

What is the bottom line? 

Buying foreclosed homes can be a unique opportunity for homebuyers looking to pay lower prices. However, it’s important to keep in mind that there may be damage and undocumented issues stemming from the previous owner, and cash-only options can make it impossible to secure a foreclosed home with financing. Since the risks are substantial, those interested in buying a foreclosed property should consult with a real estate agent who can guide them through the foreclosure and home buying process before making any decisions. 

What’s in a mortgage? 

The only way many people can become homeowners is by taking out a mortgage. Mortgages allow people to borrow a large sum of money from a lender and pay it back over time. For many, this payment is the most significant financial responsibility they’ll ever have because it involves so much money, and interest. What exactly goes into making a mortgage payment? Knowing the components helps borrowers manage the repayment process. Here are the parts of a mortgage: 

Principal: The principal is the money borrowed to purchase the home. Paying a portion of the mortgage payment each month reduces the principal balance. Over time, as monthly payments are made, the total amount of principal owed decreases. As the amount owed is reduced, the amount of interest decreases, while the amount going toward the principal balance increases. 

Interest: Interest is the amount of money the home buyer pays the lender for lending out money. Interest is calculated monthly as a percentage of the principal balance. Interest rates are set by the federal government, and can go up or down based on the U.S. economy. An individual borrower’s credit score also impacts what their interest rate will be. Other factors in setting an interest rate include the length of the loan, the amount of the down payment, and the particular type of loan. 

Escrow: An escrow is a separate holding account that reserves funds for the lender to pay property taxes and insurance. A portion of the monthly mortgage payment is held in escrow to cover these expenses. This way, the lender can ensure these crucial bills are paid on time. 

Taxes: Property taxes are an annual expense that homeowners must pay to their local government. Property taxes can be a significant expense, depending on the home’s location and value. Many lenders will collect a monthly amount based on the property tax bill to an escrow account, but some lenders do not collect escrows. In that case, taxes will not be part of the monthly payment and are the responsibility of the homeowner to pay when they are due. 

Homeowner’s insurance: Homeowner’s insurance protects the home and personal belongings from damage or loss. (See companion column from Maine Credit Union). As with property taxes, lenders may also collect a monthly amount to the escrow account to pay the insurance bill when it comes due. 

Private mortgage insurance: Private mortgage insurance (PMI) is an added insurance policy that protects the lender if the buyer cannot pay the mortgage. Sometimes this is required when the initial down payment is on the smaller side, requiring the lender to outlay a more significant overall borrowed amount. This is often an expense that first-time home buyers will have to pay. The amount of PMI can vary, and some lenders allow borrowers to pay a one-time fee at closing versus paying it as part of the monthly payment; this option would not only lower the monthly payment but also may save money in the long run. 

Loan term: The loan term is the time allotted for a borrower to repay the mortgage. Typically, loans can extend for 15- or 30-year terms. A longer loan term typically means lower monthly payments, but more interest must be paid over the life of the loan. A shorter loan term means higher monthly payments, but less paid in interest over time. 

Homeowners association or condominium fees: All condominiums and some neighborhoods have a homeowners association (HOA). HOAs provide services such as building maintenance and property care, snow removal, and helping enforce rules set by the neighborhood or condominium developer. Fees collected every month cover the cost of these services. 

Importance of adjusting homeowners insurance policies 

What is homeowners insurance? 

Homeowners insurance provides financial protection against loss or damages to someone’s home, furnishings, and other personal belongings. Homeowners insurance also provides liability coverage against accidents in the home or on the property. Typically, an individual’s homeowners insurance policy will protect them in the event of interior damage, exterior damage, loss or damage of personal assets, and injury that occurs to someone while on the property. 

  If a homeowner didn’t have this insurance and their house were to catch fire, they would need to pay for the cost of the repairs or replacement all on their own. If a homeowner did have insurance, the insurance provider would pay for the costs of repair or replacement. Even with insurance, the homeowner may need to pay a deductible. A deductible is the amount someone would have to pay before the insurance provider would cover the rest. For example, if someone had homeowners insurance with a $1,000 deductible, and a fire caused $20,000 in damage to their home, they would pay $1,000 and the insurance company would pay the remaining $19,000. Usually, the higher the deductible amount, the lower the insurance will cost. 

  Legally, people can own a home and choose not to have homeowners insurance. However, in most cases, those who have a financial interest in a home – such as the mortgage lender – will require that it be insured. But even if there is no requirement, almost everyone agrees that it is a good idea for people to protect what is likely the largest investment they’ll ever make – their home. 

Why adjusting homeowners insurance policies is important 

We are living in a time of rapidly rising costs, and even those who already own a home and are protecting their investment with insurance, may discover they are now underinsured. This means they may not have enough insurance coverage to rebuild their home if that were to become necessary. This is the result of inflation, rising building costs, and labor shortages. Homeowner insurance policies are based on the home’s replacement value or cost of rebuilding. During periods of rapid inflation – much like U.S. consumers have seen over the past few years – the prices of construction materials can raise costs far beyond what one’s insurance provider originally estimated replacement costs to be. 

  Given that the replacement value for a home is likely higher than it would have been for the same building 10, five, or even three years ago, it’s important that homeowners take steps to ensure their insurance coverage is keeping pace with rising inflation. Homeowners should contact their insurance agent or insurance company to complete an audit of their coverage. Doing so can determine whether the current replacement coverage is enough to replace their home. If they need to make adjustments, now is the time to do so. Homeowners can even ask their insurance provider to add inflation guard to their policy, which would adjust their coverage limits to keep pace with the rate of inflation each year. Typically, inflation adjustments are 2% to 4% annually, but may be even more during periods of high inflation. It’s also important that homeowners complete an inventory of the items in their home, such as jewelry, electronics, and other valuables – that way they can ensure that replacement coverage for those personal belongings is also adequate. 

The bottom line 

People should review their insurance coverage annually. They can check their policy to see if it meets their needs and is in alignment with current rebuilding costs. Not only that, but if a homeowner isn’t reviewing their policy annually, they may also miss out on the opportunity to compare the coverage they have with what is available from other insurance companies. Shopping around between different providers can lead to some great savings.