So remember how I mentioned earlier this week that I’m going to be better in 2014 about keeping up with some of my “series”? Well, that includes Molly’s Money! For those of you that are new here, Molly’s Money is a regular series on this blog where I talk about all things personal finance (debt, getting out of debt, saving, budgeting, etc. etc.!)
Going back to my earlier point, I started a little series within a series a few months ago about “Buying a House” – I started off with “8 Things to Know Before Buying a House.” It turns out I may have been a little bit prophetic (in my own right), because this spring (more like, in less than two months!!) my husband and I are putting our house on the market and moving a few towns over.
Not a huge move, but it’ll be the first time I, personally, go through the process of buying a house. I’ve been through the refinancing process on our current house before, but never have I (personally) ventured into the realm of buying a house.So, as my husband and I have been doing research, planning, number crunching, budgeting, etc. etc. I thought it would be fun to sort of walk you guys through the process as we go through it over the next few months. I’ll talk about what I’m learning, what steps we’re taking etc.
Right now we’re just in the preliminary “getting our current house ready to put on the market” stage. And we have driven around some neighborhoods just looking. So, nothing major.
In the meantime, I wanted to follow up on the previous “house buying” post I did and talk to you guys about the biggest part of buying a house: THE MORTGAGE.
So, here are some of the (read: BASIC) things you need to know about a MORTGAGE.
Let’s be honest, unless you’re Bill Gates or Randy Quaid, you probably can’t afford to pony up the cash to pay for a house up front. Not many people walk around with $150K – $300K+ they can just drop at the blink of an eye.
So, if you can’t afford to buy a house up front, you basically need someone to “buy the house for you” (this is typically a bank) and then you pay that entity back over a period of 15 or 30 years.
And, since that bank was just so dang nice to buy that house for you, the bank then charges you a fee every month for the right to continue living where you live. That fee? That’s interest.
What is the difference between a “pre-approved” mortgage loan and a “pre-qualified” mortgage loan?
A “pre-approved” loan means that you have gathered your (official) credit reports, fixed any mistakes on your credit reports, spoken with a lender, filled out paperwork, etc. and you have been “pre-approved” for a certain loan amount from the bank or other lending institution.
BUT, DEFINITELY make sure you shop around and get different bids / rates from different banks.
What’s the difference between a 15-year and a 30-year mortgage?
Well, quite literally, it means you either pay off / pay back that loan in 15 years or 30 years. BUT, more importantly the biggest difference (other than time) on a 15 year and a 30 year mortgage is the “Amortization Schedule.”
What in the what is an “Amortization Schedule”?
First, “amortization” means, “paying off a debt in regular installments over a period of time.” So, the amortization schedule is a chart that shows the progress of your debt payoff – or your mortgage payoff. This is usually shown through the use of an amortization calculator. This calculator will factor in the rate at which you are paying down both the INTEREST and the PRINCIPAL on your mortgage. The principal being the actual amount you bought the house for or the actual amount the initial loan was for.
On a 15-year mortgage, you’re going to be paying MUCH more towards principal versus paying off interest. On a 30-year mortgage, those first few years you’re going to be paying much more in interest and very little towards principal.
The key is, the more principal you pay off, the more equity (or ownership) you’ll have built up in the house. Which is good for when you go to sell it!
For example, my husband and I refinanced our house not long after we got married and we refinanced to a 15 year mortgage. For the last two years we’ve been paying A WHOLE lot more towards principal and less towards interest and now we have a lot of equity built up in the house. This is going to help us BIG time when we go to buy a new house here in a few months!
Now, let’s look at a couple amortization schedule examples.
Let’s first look at a 30-year mortgage.
Let’s say you buy a house for $165,000 on a 30-year mortgage at an interest rate (this is the current average right now) of 4.5%.
Your monthly mortgage payment would be $836.03. Now, below that, look at the amortization (payoff) schedule for 2014. You’re paying about $617 a month toward INTEREST and only about $217 a month toward PRINCIPAL.
Now let’s look at that same 30 year mortgage in 30 years.
You’re now paying over $800 a month toward principal and only $30 some a month toward interest.
Now, let’s look at the SAME stats, but on a 15 year mortgage.
You bought that SAME $165,000 house at an interest rate of 4.5%, only difference is you got a 15 year mortgage.
Your monthly payment is now $1,262.24. So yes, quite a bit more than the 30 year mortgage payment… BUT, look below… You’re paying on average $640 toward principal and $618 towards interest. So, half toward principal and half toward interest. In fact, a little MORE towards principal versus interest.
Now, let’s look at it in 15 years.
Look how much you’re paying towards principal – over $1,200 a month! And your interest payment is only around $55 a month. Your equity in the home is THAT much more. And, your house is paid off in 15 years. Now, I am NOT saying that a 30 year mortgage is bad. When my husband and I move and buy our new house this spring, we will MORE than likely do a 30 year mortgage. We refinanced our current house to a 15 year mortgage because the interest rates were SO dang low and we could afford it.
So, make sure you can AFFORD a 15-year versus a 30-year before you go signing up for one and making that decision.
The Importance of the Down-Payment and Avoiding PMI
PMI is private mortgage insurance. Basically, if you put LESS than 20% down on your home when you go to buy it, the bank takes out insurance on you in case you, at some point, can’t pay for your mortgage. This is an extra fee that you’re paying to the bank until you have paid of 20% of the value of the home.
However, you can AVOID having to pay PMI simply by putting 20% down on your house to start. This is something my husband and I have taken into consideration as we start shopping for a new home. We are calculating what we have in savings and how much equity we have built up in our current home to figure out what, reasonably, we could use or put towards a down payment on the new home. We won’t buy a home that we can’t afford (obviously), but we won’t buy a home that we can’t put 20% down on.
PMI is simply money lost. Poof. It’s gone. Into nowhere. You don’t want to have to pay any more than you should have to.
Now, I realize this is an EXTREMELY dense and somewhat complex topic, but I hope (and I pray) that I made it a LITTLE bit more understandable.
It is definitely something I’m not an expert on by any means, but I have consulted both my husband (who does all sorts of money-related stuff for a living) and a book by his boss Fine Print Fiasco by Peter J. D’Arruda and I’ve tried to put it in as simple terms as I can.
So, what questions do you have? Was this helpful? Are you buying a house anytime soon? Have you bought a house before? What did you learn? What did you wish you’d have known before?
What other “money” topics and posts would you like to see in 2014? Leave them in the comments below!