Home ownership and private mortgage insurance

Sold-houseIf you have been following Money Monday for the last few months, you have seen us discuss the “65/25/10” rule.  This rule states that you should live on 65% of your total earnings, pay about 25% in taxes and save 10%.  Of that 65%, some of one’s living expenses will likely go toward renting or owning a home.  Some might say that owning a home is part of living the American dream.  At some point in a young professional’s career, home ownership becomes a realistic option.  But how much should you spend on a home?  How much is too much?  When you decide to buy a home, consider how much your home costs will be monthly; this includes mortgage payments, property/real estate taxes, home owners or private mortgage insurance and assessments (if you are in a condo association).  A good rule to follow is to keep your monthly home costs below 30% of your total earnings.

Private mortgage insurance is one home cost that affects many first time buyers.  With the more stringent lender rules that exist following the mortgage crisis of the last four years, private mortgage insurance will affect more buyers than it did in the booming real estate market of the early 2000’s.  If your down payment on a home is less than 20% of the appraised value or sale price, you will likely be required to obtain private mortgage insurance (“PMI”).  This is because a borrower who puts less down is considered by the lender to be at greater risk of defaulting on the loan.  Therefore, PMI is meant to protect the lender, not the borrower (i.e. the party paying the PMI).  Some lenders may waive PMI if the borrower is willing to accept a higher interest rate.  The benefit of a higher interest rate is that at least for now, mortgage interest is generally tax deductible.  Further, under The Homeowners Protection Act of 1998, a lender is required to automatically cancel PMI coverage when you reach a 78 percent loan to value ratio with your mortgage.

In addition you should be aware that there are costs associated with closing on any property, including closing costs, attorney review fees and home inspection costs.  Before making an offer, inquire about these costs and others.  Ask the seller to share their average monthly utilities expense, for example, to get a better grasp on what your overall costs will be.  Most importantly, buy within your means and do not over-extend yourself.  Although the housing market in many parts of the country is starting to heat up again, stick to your budget and do not be afraid to walk away from a home or a pushy realtor if the price is not right!

~Megan Hille, Esq., Pesavento & Pesavento Ltd.

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