Mortgage Options For Home
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Mortgage Options For Home
Hi,
My wife and I are going to buy a home soon. I need to figure out what mortgage option I want to do.
Home costs $335k. I have First, no matter what else, I negotiated with my buyer's agent that he keeps $2k of his 3% commission. I keep the rest and can apply it to closing costs.
Not counting 401k, I have $185k in assets I could use to pay for the house. If my wife and I take out 401k loans, it would add another $62k (total 247k). If we withdrew the principal from our Roth IRAs, then it'd add another $50k (we'd be up to $297k).
My wife and I make close to $200k total and live in a relatively low cost of living area. We probably pay more in taxes than we do on living expenses.
Option 1--30-year fixed at 3.625% with 20 percent down. Payment would be $1,222/mo.
Option 2--5-year ARM at 2.5% initially with 20 percent down. Payment would be $1,060/mo. I would pay off the loan completely after 5 years if the interest rate goes up too far.
Option 3--1-year or so loan with my dad. I would pay him back as soon as possible and probably stop contributions to 401ks for a little while. I would also probably use a lot more of my money on the downpayment. The nice thing about this is we may be able to recover the $8k instead of spending the entire amount on closing costs.
I would do option 1 if I wanted to invest the difference in stocks, since my wife and I are both young.
So far, I'm leaning toward option 2. The interest rate difference just seems so huge. It's about $2k / year and $10k in five years. Regarding option 3, something feels weird about setting up a loan with family members. The only reason I'd go with option 3 is to recover the $8k that would be going to closing costs.
Thoughts?
Thanks in advance.
My wife and I are going to buy a home soon. I need to figure out what mortgage option I want to do.
Home costs $335k. I have First, no matter what else, I negotiated with my buyer's agent that he keeps $2k of his 3% commission. I keep the rest and can apply it to closing costs.
Not counting 401k, I have $185k in assets I could use to pay for the house. If my wife and I take out 401k loans, it would add another $62k (total 247k). If we withdrew the principal from our Roth IRAs, then it'd add another $50k (we'd be up to $297k).
My wife and I make close to $200k total and live in a relatively low cost of living area. We probably pay more in taxes than we do on living expenses.
Option 1--30-year fixed at 3.625% with 20 percent down. Payment would be $1,222/mo.
Option 2--5-year ARM at 2.5% initially with 20 percent down. Payment would be $1,060/mo. I would pay off the loan completely after 5 years if the interest rate goes up too far.
Option 3--1-year or so loan with my dad. I would pay him back as soon as possible and probably stop contributions to 401ks for a little while. I would also probably use a lot more of my money on the downpayment. The nice thing about this is we may be able to recover the $8k instead of spending the entire amount on closing costs.
I would do option 1 if I wanted to invest the difference in stocks, since my wife and I are both young.
So far, I'm leaning toward option 2. The interest rate difference just seems so huge. It's about $2k / year and $10k in five years. Regarding option 3, something feels weird about setting up a loan with family members. The only reason I'd go with option 3 is to recover the $8k that would be going to closing costs.
Thoughts?
Thanks in advance.
Re: Mortgage Options For Home
In your likely tax bracket it would be insane to withdraw money from a retirement account in less than a dire situation.
Getting the 401K loan is almost as bad since you would not be able to deduct the mortage interest and would be in a bind if you changed jobs.
Getting the loan from your dad is a very expensive if you would have to reduce your deductible 401k contributions. People are funny about money too and unexpected things can happened that could complicate things real fast like being sued(by someone else), a divorce, death, siblings feeling slighted, or unexpended need for the money. Some people can make this work but it involves a bit of luck to avoid anything going wrong.
Any option that keeps you from maxing out your deductible retirement accounts is likely a very poor choice.
There is no one right answer to the question of “Big downpayment vs small downpayment?” or “Should I pay off my mortgage early?”. Part of the reason that it is so hard to say what is right is that most of these choices leave you with the same net worth and what makes one better than the other is the future results of your investments and what happens in your life, and that is unknowable.
You also didn’t mention if using any of the $185K in assets would cause you to pay things like capital gains taxes. If so that would favor a smaller down payment.
In your situation I would take a really hard look at;
Option 4; a 15 year fixed rate mortgage.
That interest rate would be almost as low as the ARM and if rates go up a lot you could keep it for the full 15 years. Your monthly payments would be a lot easier to handle than trying to pay off the ARM in five years.
Getting the 401K loan is almost as bad since you would not be able to deduct the mortage interest and would be in a bind if you changed jobs.
Getting the loan from your dad is a very expensive if you would have to reduce your deductible 401k contributions. People are funny about money too and unexpected things can happened that could complicate things real fast like being sued(by someone else), a divorce, death, siblings feeling slighted, or unexpended need for the money. Some people can make this work but it involves a bit of luck to avoid anything going wrong.
Any option that keeps you from maxing out your deductible retirement accounts is likely a very poor choice.
There is no one right answer to the question of “Big downpayment vs small downpayment?” or “Should I pay off my mortgage early?”. Part of the reason that it is so hard to say what is right is that most of these choices leave you with the same net worth and what makes one better than the other is the future results of your investments and what happens in your life, and that is unknowable.
You also didn’t mention if using any of the $185K in assets would cause you to pay things like capital gains taxes. If so that would favor a smaller down payment.
In your situation I would take a really hard look at;
Option 4; a 15 year fixed rate mortgage.
That interest rate would be almost as low as the ARM and if rates go up a lot you could keep it for the full 15 years. Your monthly payments would be a lot easier to handle than trying to pay off the ARM in five years.
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Re: Mortgage Options For Home
Watty,
Thanks so much for the response.
Thanks so much for the response.
Good point. I can make a 20% downpayment by only selling securities at a loss basically. I've already done this and extracted about $5k in losses on the sale. Anything more than this, though, and I'd have some pretty serious capital gains (maybe approaching $30k-$40k or so?). Another big reason not to do option 3.Watty wrote:You also didn’t mention if using any of the $185K in assets would cause you to pay things like capital gains taxes. If so that would favor a smaller down payment.
I've thought a little bit about 15-year loans. I guess I've never liked them because they've lacked flexibility. I have neither the super low rate (possibly to infinity), nor the super long term. It's just kind of meh in the middle. You're right that I should look into it more though.Watty wrote: In your situation I would take a really hard look at;
Option 4; a 15 year fixed rate mortgage.
That interest rate would be almost as low as the ARM and if rates go up a lot you could keep it for the full 15 years. Your monthly payments would be a lot easier to handle than trying to pay off the ARM in five years.
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Re: Mortgage Options For Home
You should look at a 15 year fixed a LOT harder.
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Re: Mortgage Options For Home
I just talked to my lender. Regarding the 15-year loan. He says that it would be at 2.75% with a monthly payment of $1810 or so.
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Re: Mortgage Options For Home
Don't withdraw from retirement accounts, I'd probably do the 15 year if I were in your shoes. The spread between 15 and 30 is pretty big right now, so the 15 year's a pretty good deal. Could maybe look at a Penfed or Navy Federal 5/5 ARM, when I ran the numbers a couple years ago, I was breaking even vs. a 30 year assuming max rate hikes at around year 11.
Good luck!
Good luck!
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Re: Mortgage Options For Home
That's an excellent loan.davidlukewilcox wrote:I just talked to my lender. Regarding the 15-year loan. He says that it would be at 2.75% with a monthly payment of $1810 or so.
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Re: Mortgage Options For Home
How long do you plan on living in the home? You may or may not have a clue, but since you're young, I think it's safe to assume it won't be your last home. Would you consider renting it out if you had to move?
You obviously build equity in the house much quicker, but what good was home equity in 2008, 2009, or early in the recovery? In some areas (not all) some are getting back to breakeven. Money in your hand is a for sure thing. Equity, whether in stocks or in the house - is not. Of course, if your area is stable, then you may feel more comfortable with the idea of aggressively building equity and not potentially losing on the home value.
I would consider how long you plan on owning the house and figure out how to minimize your cash outflow. A difference of $2k a year with the ARM and 30-year fixed? That's $10k over 5 years. If your rate went up 1% per year for the following 3 years (assuming you didn't refinance), you would still be ahead. It's $48k between the ARM and 15yr. It can be argued that the $48k could represent equity going into the house and that assumes you don't lose value on the house, probably a safe assumption. I personally like to have more cash in my hand.
Another way to look at it is, do you feel it is more advantageous to have more cash flow (and flexibility) or build equity in the house? Or why not take the 30 yr fixed and pay down extra towards principle? You'd have to be disciplined enough to do that though but it gives you a little more flexibility.
You obviously build equity in the house much quicker, but what good was home equity in 2008, 2009, or early in the recovery? In some areas (not all) some are getting back to breakeven. Money in your hand is a for sure thing. Equity, whether in stocks or in the house - is not. Of course, if your area is stable, then you may feel more comfortable with the idea of aggressively building equity and not potentially losing on the home value.
I would consider how long you plan on owning the house and figure out how to minimize your cash outflow. A difference of $2k a year with the ARM and 30-year fixed? That's $10k over 5 years. If your rate went up 1% per year for the following 3 years (assuming you didn't refinance), you would still be ahead. It's $48k between the ARM and 15yr. It can be argued that the $48k could represent equity going into the house and that assumes you don't lose value on the house, probably a safe assumption. I personally like to have more cash in my hand.
Another way to look at it is, do you feel it is more advantageous to have more cash flow (and flexibility) or build equity in the house? Or why not take the 30 yr fixed and pay down extra towards principle? You'd have to be disciplined enough to do that though but it gives you a little more flexibility.
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Re: Mortgage Options For Home
It's definitely more dangerous to build equity in the house. Less liquidity is the huge one.southlooprunning wrote:Another way to look at it is, do you feel it is more advantageous to have more cash flow (and flexibility) or build equity in the house? Or why not take the 30 yr fixed and pay down extra towards principle? You'd have to be disciplined enough to do that though but it gives you a little more flexibility.
I plan on being in the house for the foreseeable future (which could be 30 years, or could be 2
Re: Mortgage Options For Home
15 yr or 30 fixed rate. ARM's are terrible and being pushed by unethical lenders and bought by suckers. Don't be in a hurry to pay it off. It's cheap debt and I suspect you itemize your taxes. This rate is not high on a historical basis.
"Don't trust everything you read on the Internet"- Abraham Lincoln
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Re: Mortgage Options For Home
I think that is bad advice and improper thinking. It's dangerous to build equity in a home? My father has owned his house for 10 years. The first 8 years he had two different ARMs. Do you know how that turned out? After 8 years he was underwater 50k on his house. ARMs are bad. I would never recommend them.davidlukewilcox wrote:It's definitely more dangerous to build equity in the house. Less liquidity is the huge one.southlooprunning wrote:Another way to look at it is, do you feel it is more advantageous to have more cash flow (and flexibility) or build equity in the house? Or why not take the 30 yr fixed and pay down extra towards principle? You'd have to be disciplined enough to do that though but it gives you a little more flexibility.
I plan on being in the house for the foreseeable future (which could be 30 years, or could be 2
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Re: Mortgage Options For Home
#5: ARM 7/1/2/5
? Is this your final house or one than you will stay in 5-7 year's?
? Will you stay in this house 10-15 yrs?
? Is this your final house or one than you will stay in 5-7 year's?
? Will you stay in this house 10-15 yrs?
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Re: Mortgage Options For Home
I suggested the OP consider his own housing market and financial situation.nelson1015 wrote:I think that is bad advice and improper thinking. It's dangerous to build equity in a home? My father has owned his house for 10 years. The first 8 years he had two different ARMs. Do you know how that turned out? After 8 years he was underwater 50k on his house. ARMs are bad. I would never recommend them.davidlukewilcox wrote:It's definitely more dangerous to build equity in the house. Less liquidity is the huge one.southlooprunning wrote:Another way to look at it is, do you feel it is more advantageous to have more cash flow (and flexibility) or build equity in the house? Or why not take the 30 yr fixed and pay down extra towards principle? You'd have to be disciplined enough to do that though but it gives you a little more flexibility.
I plan on being in the house for the foreseeable future (which could be 30 years, or could be 2
I'm glad you mentioned your father's case. 8 years and $50k under water? Is there more to the story? Did he cash-out when he refinanced? Was the market down at all? Are you saying the house value remained flat or increased and solely because he used the ARM he was underwater $50k? I find that a stretch.
Based on the OP's numbers, he would have paid about $66k in INTEREST after 8 years. Why would anyone pay $66k in interest if they're not going to pay off the house? That's like rent to the bank. I want to minimize my "rent" or the cost of the right to live in my house. My suggestion would be different if the OP were going to keep the house for decades or rent it if he moved.
Building equity is not dangerous. But equity isn't realized until a house is sold. The danger is once you've parted with your money, it's gone. You will only get it back if what you paid into the house is fully returned. It's the same with investing in securities. Your asset's value isn't realized until it's sold. In the meantime, it could go up or down.
Last edited by southlooprunning on Thu Oct 23, 2014 6:03 pm, edited 1 time in total.
Re: Mortgage Options For Home
Like to make sweeping generalizations, much?denovo wrote:15 yr or 30 fixed rate. ARM's are terrible and being pushed by unethical lenders and bought by suckers. Don't be in a hurry to pay it off. It's cheap debt and I suspect you itemize your taxes. This rate is not high on a historical basis.
You may be confusing the middlemen (i.e, mortgage brokers) with the lenders in the recent mortgage crisis. There were a lot of unscrupulous ones just out for their cut of the fees and IMO they are the ones who did most of the damage by outright lying, pushing inappropriate products to increase their fees, and falsifying the paperwork submitted to the banks. (The lenders were responsible for loosening their lending standards way too much and for repackaging the debt as AAA when it was junk). But offering an ARM certainly doesn't make a lender unethical if they fully disclose the terms. There are plenty of on-line resources that explain the differences, as well as mortgage calculators for comparisons. If you are potential home buyer who opts not to educate yourself, then don't blame it on the lender when your initial interest rate goes up after the fixed rate period! The other issue is that some people could only afford their mortgage payments by using an ARM - which tells me they couldn't afford the house in the first place. That combined with the bubble in housing prices was a recipe for disaster.
If someone knew that they would be in the home 5 years or less or knew that they would have a lump sum to pay it off before the rate got reset, would you still consider them a sucker? There ARE legitimate reasons for choosing an ARM. But one shouldn't jump at the ARM just because it offers a more attractive interest rate. With a fixed rate mortgage, the lender is taking on the interest rate risk. You can refinance if it goes down, but they can't increase your rate because of market conditions with a fixed rate loan. With an ARM, the interest rate risk after the fixed rate period falls on the borrower.
OP - How frequently does the ARM adjust after the initial 5 year period? Is the amount of increase in interest rate per adjustment capped? How many times can it adjust?
How confident are you that you could pay the mortgage off after the initial 5 year period? Have you checked out an amortization schedule? Many first time home buyers do not understand that the interest is front loaded, so unless you are making extra payments in the first 5 years, you will have paid off very little principle during that period. That makes for a very large lump sum to accumulate. A 15 year mortgage has a shorter amortization schedule than the 30 year options, so you are paying more towards principle from the get go. But of course the payment is substantially higher.
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Re: Mortgage Options For Home
I am on my 4th home and have always, with knowledge, purchased them using ARMs. On average I would estimate I have saved 2% over fixed rates over the life of these loans. Not once have they ever adjusted above what the fixed rate would have been had I gone for a 30 yr fixed. My current home enjoys under a 2.75 rate, which can go up a maximum of 6pct.denovo wrote:15 yr or 30 fixed rate. ARM's are terrible and being pushed by unethical lenders and bought by suckers. Don't be in a hurry to pay it off. It's cheap debt and I suspect you itemize your taxes. This rate is not high on a historical basis.
If you can afford to manage the volatility risk, ARMs are a great deal. Insurance against volatility can be expensive.
For OP. Read and understand they terms. We had wrong paperwork on one loan that had the reset rate fixed at a MINIMUM of 6pct. It was an error and it should not have been in the contract and we demanded it get removed. At Tbills +2.2% we are now well over 2 pct under that rate, for many yrs (originally 7/1 ARM).
Re: Mortgage Options For Home
The fact that you are on your fourth home suggests that ARMs may have been a better deal for you (although you also benefited because rates haven't risen.) If you live in a house for seven years, a 5/1 ARM locks in five years of low rates, and the cap limits what you pay in the next two. If you live in a house for 30 years, you may have 22 years of much higher rates with the ARM than with a fixed-rate loan.Pizzasteve510 wrote:I am on my 4th home and have always, with knowledge, purchased them using ARMs. On average I would estimate I have saved 2% over fixed rates over the life of these loans. Not once have they ever adjusted above what the fixed rate would have been had I gone for a 30 yr fixed. My current home enjoys under a 2.75 rate, which can go up a maximum of 6pct.denovo wrote:15 yr or 30 fixed rate. ARM's are terrible and being pushed by unethical lenders and bought by suckers. Don't be in a hurry to pay it off. It's cheap debt and I suspect you itemize your taxes. This rate is not high on a historical basis.
(This is why I rejected an ARM. I took a 15-year fixed-rate loan because I expect to live in my current home for all 15 years, and wanted to reduce the risk. Similarly, I paid maximum points on the loan; I have to keep the loan for ten years to make up in reduced interest what I paid on the points.)
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Re: Mortgage Options For Home
Grabiner,
I believe you are stating the obvious. I think we can agree that it is best to both read and understand the terms of the loan and to run the numbers. People can decide for themselves if they wish to buy interest rate volatility insurance at a premium over the market rate, based on their own judgement. However, I would argue that the average consumer has little to no ability to accurately predict interest rates. As such I think many are convinced rates are rising and buy fixed rates at a premium. To defacto say adjustable rates are bad or that interest rates must rise is just plain wrong. ARMs can result in lower costs. In my case they did, in a huge way (treasuries +2.2).
And you are wrong about being locked in for 22 years at a high rate. A wise BH saver has the power to pay down the loan to reduce payments (recommended).
Night.
I believe you are stating the obvious. I think we can agree that it is best to both read and understand the terms of the loan and to run the numbers. People can decide for themselves if they wish to buy interest rate volatility insurance at a premium over the market rate, based on their own judgement. However, I would argue that the average consumer has little to no ability to accurately predict interest rates. As such I think many are convinced rates are rising and buy fixed rates at a premium. To defacto say adjustable rates are bad or that interest rates must rise is just plain wrong. ARMs can result in lower costs. In my case they did, in a huge way (treasuries +2.2).
And you are wrong about being locked in for 22 years at a high rate. A wise BH saver has the power to pay down the loan to reduce payments (recommended).
Night.