Can we afford to purchase this new house?

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msquare
Posts: 2
Joined: Wed Apr 19, 2017 10:51 am

Can we afford to purchase this new house?

Post by msquare » Wed Apr 19, 2017 10:59 am

I am a long time reader and first time poster. I have learned so much from the blog, we wouldn’t be where I am at financially without this blog. I would like to get your perspective on a home purchase, and being a relatively conservative with my finances, I wasn’t sure if we are making a fiscally sound decision.

His age: 31
Her age: 28
No kids - but planning to have kids in a year or two
Location: Atlanta, GA

Gross combined income: $265k/yr
Maxing out 401k every year: 18k each (36k total)
Backdoor Roth: 5.5k each (11k total)

Total Liquid (CDs, Savings, Vanguard Funds, Emergency Fund): $275k
Total 401k: 118k
Total Roth IRAs: 120k
No debt

Instead of buying a starter home and then moving again, we would like to purchase a relatively large home and stay in it for a long time. We liked this new construction in a nice neighborhood with excellent schools.

The home is priced at $575k with all the add-ons.
Currently, we are living rent free in my parents’ investment property.

I believe we can afford to purchase this home by putting 20% in down payment. But doing so will certainly decrease our savings, ongoing savings rate, and will be paying a lot in mortgage interest.

Question:
- Should we wait a year or two and then purchase a similar priced home and put a down payment in the range of 350k to 400k? Downside risk is that interest rate might be higher in 2 years and property value may increase
- If we were to purchase this home right now, our income to house value would be slightly higher than 2x ratio. Do 2x ratio on a 575k home seem a bit leveraged?

We would love to hear any thoughts or suggestions you may have. Thank you!

Finance-MD
Posts: 312
Joined: Sun Mar 26, 2017 9:27 am

Re: Can we afford to purchase this new house?

Post by Finance-MD » Wed Apr 19, 2017 11:43 pm

I don't think you can call it living free in your parent's investment property if they can't even depreciate the property, since they are using it for personal use by renting it to you below fair market value.
It sounds more like they are gifting you a house.
Do they akso pay the property tax on it?
With your very high incomes, why are you living for free?
Why do you have so much uninvested cash? Your cash position is > 50% of your net worth.

I personally feel that you can easily afford this house. The 2x rule is a rule of thumb, but with today's interest rates and for high earners, 3x is quite reasonable.

The mortgage payment on $575k - 100 down payment is only probably about $2400/month, of which ~1/3 is principal ($800 net worth neutral) and the other 2/3 ($1600) will be tax deductible at your marginal rate, so you'll get another $500/mo back at taxes. Your net monthly 'cost' of having the house is only $1100/mo in interest plus the property tax, which is also tax defuctible. These numbers are estimates off the top of my head and probably reasonably close.

Now owning a property will allow you to capture the potential upside of increase valuation but also the risk of losing valuation short term. If we assume growth of inflation alone, let's say 2%, that's $11500 per year. That just happens to also be the amount your paying on interest.
From a net worth perspective, the house is effectively free if you can meet a 2% growth rate. In the meantime, the debt gets cheaper with inflation, and your mortgage rate is fixed. You still have to pay property tax, but you can consider that the cost of tuition.

I'm much more 'aggressive' with leveraged mortgage debt and not afraid of holding onto debt because I know my biggest financial hurdles are not debt or interest but rather high income taxation and the loss of wealth by inflation. Long term with compounding effects, these are much much more costly.

In reviewing your high cash position though, it seems to me that you may not be comfortable with any debt, even mortgage debt.
As interest rates rise and the cost of houses increases, even with a bigger downpayment, your monthly payment may be equivalent. you may have more equity, but if you just got the house now and put that money aside, you would have the equity anyhow.

I would highly suggest assessing your monthly and annual tax liability, which is money completely lost from your wealth. Re-evaluate your tax liability with the house. Your house will likely be much cheaper than you expect.

I caution to you that the value of the house may certainly not go up at all in the next few years. I don't know the area, but if you're buying new construction, well you're probably buying at full retail price at the peak of what the market will bear for such a property. This is probably not a 'value' purchase.
So please do not count on growth.

In addition, many of the big costs of buying a new house go well beyond the monthly payment. How much do you plan to spend in furniture the first year. How much more will your utilities be? Will you buy nicer cars to go with your home, etc... all the inflation that comes with homestead inflation.

Lastly, if you were paying rent in an apartment, the choice to buy is easier. But you are getting subsidized housing. If you moved out, would you be able to keep the rent if the property was rented? If not, you are basically buying a house and also losing essentially additional wages that was subsidizing your living. That is a double hit to your cash flow. So you won't be able to save like you are now. I don't personally believe anyone at your incomes without paying off student loan debt should be living rent free from parents, but you have been good about saving well in the meantime.

NOLA
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Re: Can we afford to purchase this new house?

Post by NOLA » Wed Apr 19, 2017 11:56 pm

We decided to do the same thing about 7 years ago. After looking for 1.5 year we found a little bigger house than expected, but since we had our first little one just 2 years later it worked out great.

I guess if you decided to upgrade in a few years, you would have to include a real estate fee as an extra expense as well.

Good luck whatever you decide to do.

Nate79
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Location: Portland, OR

Re: Can we afford to purchase this new house?

Post by Nate79 » Thu Apr 20, 2017 12:26 am

Why do you want to buy a house, especially a big house? If because you plan to have kids I would wait a few years after having the first kid and then find a house. Plans change.

HopeToGolf
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Joined: Fri Dec 24, 2010 4:04 pm

Re: Can we afford to purchase this new house?

Post by HopeToGolf » Thu Apr 20, 2017 4:28 am

What are your expenses?

Based on the limited information given, I imagine you can easily afford the house.

bluejello
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Re: Can we afford to purchase this new house?

Post by bluejello » Thu Apr 20, 2017 5:47 am

Nate79 wrote:Why do you want to buy a house, especially a big house? If because you plan to have kids I would wait a few years after having the first kid and then find a house. Plans change.


+1

When you have kids, your housing needs change a lot during the first few years. When you have babies, you really want to be near a support network (e.g. parents who might provide free babysitting, other family, other people with babies and toddlers). With toddlers you want to be close to parks, playgrounds, libraries.

You're at least one year away from having a baby and at least 7 years away from sending your kids to school. So buying a house now in a excellent school district" doesn't make sense to me. So much could change in that time.

Tamarind
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Re: Can we afford to purchase this new house?

Post by Tamarind » Thu Apr 20, 2017 6:11 am

Two thoughts:

1) I know nothing about AMT, but expect that it's unlikely OP has enough deductions to worry about it pre-mortgage. Does anyone who is familiar with AMT calculations know if they need to model what effect that mortgage interest deduction will have?

2). The forever home narrative is attractive for many reasons, but it has two big flaws - it assumes you will never need to move due to work, and it tends to cause people to buy more house than they'll need except when they have teenagers.

I'm very attached to the area where I live and can easily do my job by telecommuting. Also did not want to buy a "starter" home. I chose the smallest, most modest home I could imagine living in through the whole cycle, with the intent that it would not feel too big or isolated after theoretical kid moved out. Main requirements were a second bedroom, single story, pleasant location. Resulting house will be paid off at 40 and is under 1400 sq ft. I feel like I can both raise a child here and age in place here. And with the money I'm not spending on a mortgage, I can reshape the property to suit us perfectly at each stage. YMMV.

angelescrest
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Location: The Third Coast

Re: Can we afford to purchase this new house?

Post by angelescrest » Thu Apr 20, 2017 6:18 am

We bought a much bigger house than we expected, wanted, or needed, and had a one year old. But now, five years later, we are so glad we did. We have more kids, and always have lots of family and guests over to visit. It has really worked out.

At the time we said we didn't care about the school district, because we only had a one year old. Now, however, we regret not being near a better school district. So I think the OP is spot on in planning ahead. Who wants to move? It's a pain. And without question they can afford it.

stan1
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Re: Can we afford to purchase this new house?

Post by stan1 » Thu Apr 20, 2017 6:29 am

Will your income change after you have kids? By how much?

Yes in general most people can afford a house that is about 2X annual income plus you can make a 20% down payment. Agree with buying a house that you will be happy with for many years if possible. Sometimes schools and commute times change though.

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bottlecap
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Location: Tennessee

Re: Can we afford to purchase this new house?

Post by bottlecap » Thu Apr 20, 2017 6:32 am

You can afford it if your jobs are steady and you have a normal budget. I'd definitely want to have an extra $50 in the bank on top of that if you're concerned, however. Big houses cost money and need to be furnished. You don't say what your emergency fund will look like after the purchase.

My test would be to look at your budget and see if you can afford the payments on a 15 year mortgage.

JT

jlcnuke
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Re: Can we afford to purchase this new house?

Post by jlcnuke » Thu Apr 20, 2017 6:57 am

I believe we can afford to purchase this home by putting 20% in down payment. But doing so will certainly decrease our savings, ongoing savings rate, and will be paying a lot in mortgage interest.


If it requires that you take from your emergency savings, then you don't have enough money to put down yet. If it would make you cut back your "savings for retirement' then it isn't within your budget.

If you can put down the down-payment without impacting your emergency savings amount, and you can continue to max out both 401k's and IRA contributions each year, and still have room in the budget for saving for new cars, home repairs, vacations, as well as normal monthly spending, then I think you would be fine. A ~$2,300 mortgage "shouldn't" be out of the question with $265k/year income as it would only represent ~11% of your annual income going to PI. Of course, you have taxes and insurance on top of that; though I'd imagine that's only another $5-7k or so (depending on county and rates) which would still keep it at less than 15% of your gross income for PITI, which I consider very reasonable.

mac808
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Re: Can we afford to purchase this new house?

Post by mac808 » Thu Apr 20, 2017 8:09 am

How stable is your income? Whenever I read these threads I always think there's a world of difference between someone in health care versus sales, etc. Stability of career and income seems increasingly important these days.

tbone555
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Joined: Thu Apr 13, 2017 1:28 pm

Re: Can we afford to purchase this new house?

Post by tbone555 » Thu Apr 20, 2017 8:24 am

You can afford this house. Go for the house that will work for the long term instead of moving twice. I believe bogleheads can be overly conservative at times. Put down 20% and spread your savings across other accounts instead of putting down a huge down payment.

All that said, I strongly agree that you should consider what would happen if one of you lost their job.

Frisco Kid
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Joined: Sun Nov 16, 2014 6:18 pm
Location: San Francisco Peninsula

Re: Can we afford to purchase this new house?

Post by Frisco Kid » Thu Apr 20, 2017 9:39 am

OP, what does "relatively large" mean and is this home both fenced and landscaped? It appears you can afford it given your current financials. My questions to you would be how are you going to pay to furnish/decorate it and when children come how will that effect your income? We bought new years ago and while making the house/taxes payment was not a problem paying for everything else that came with it presented some challenges and we were DINK's. Eight years later upon selling we made a handsome profit due to increasing home values. In the first few years when new construction continued around us appreciation was close to zero. Future appreciation is not a given, we were lucky.

Alternately, given your income and no housing expense if you radically increased your savings rate imagine where you would be financially at age 40? I suspect you could buy a home with cash. Think very hard before you get caught up in todays instant gratification world..................

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