Chapter 1

Deciding Whether to Buy

IN THIS CHAPTER

Considering the pros and cons of owning and renting

Avoiding common mistakes when deciding to buy or rent

Every month, week, and day, we buy things large and small: lunch, a new pair of shoes, and every now and then, a car.

Most people buy things without doing much comparison shopping, but instead draw upon their past experiences. When the counter help at the nearby coffeehouse is friendly and you like the brew, you go back for more.

Sometimes purchases lead you by association to related purchases. You get a pet cat or dog, for instance, and buying a collar and pet toys may naturally follow. By the same token, you buy a home, and before long you have a new sofa and dining table.

You end up being really happy with some items you purchase. Others fall short of your expectations . or worse. When the items in question don't cost you much, it's no big deal. Perhaps you return them or simply don't buy more in the future. But when it comes to buying a home, that kind of sloppy shopping can lead to financial and emotional disaster.

If you're not willing to invest time, and if you don't work with and heed the advice of the best people, you can end up overpaying for a home you hate. Our goals in this book are simple: to ensure that you're happy with the home you buy, that you get the best deal you can, and that owning the home helps you accomplish your financial goals.

Weighing the Advantages of Owning versus Renting

Nearly everyone seems to have an opinion about buying a home. People in the real estate business - including agents, lenders, property inspectors, and other related professions - endorse homeownership. Of course, why wouldn't they? Their livelihoods depend upon it! Therein lies one fundamental problem of nearly all home-buying books written by people who have a vested interest in convincing their readers to buy a home.

Homeownership isn't for everyone. One of our objectives in this chapter is to help you determine whether home buying is right for you.

Consider the case of Peter, who thought that owning a home was the best financial move he could make. What with tax write-offs and living in a place while it made money for him, he thought, how could he lose? Peter envied his colleagues at work who'd seemingly made piles of money with property they bought years ago. Peter was a busy man and didn't have time to research other ways to invest his money.

Unfortunately, Peter bought a place that stretched his budget and required lots of attention and maintenance. Adding insult to injury, Peter went to graduate school clear across the country (something he knew he was likely to do at the time he bought) three years after he purchased. During these three years of his ownership, home prices dropped 10 percent in Peter's neighborhood. So after paying the expenses of sale and closing costs, Peter ended up losing his entire down payment when he sold.

Conversely, some people who continue to rent should buy. In her late 20s, Melody didn't want to buy a home, because she didn't like the idea of settling down. Her monthly rent seemed so cheap compared with the sticker prices on homes for sale.

As it always does, time passed. Melody's 20s turned into 30s, which melted into 40s and then 50s, and she was still renting. Her rent skyrocketed to eight times what it was when she first started renting. She fearfully looked ahead to escalating rental rates in the decades when she hoped to be retired.

Ownership advantages

Most people should eventually buy homes, but not everyone and not at every point in their lives. To decide whether now's the time for you to buy, consider the advantages of buying and whether they apply to you.

You should pay less than renting

You probably didn't appreciate it growing up, but in addition to the diaper changes, patience during potty training, help with homework, bandaging of scraped knees, and countless meals, your folks made sure that you had a roof over your head. Most of us take shelter for granted, unless we don't have it or are confronted for the first time with paying for it ourselves.

Remember your first apartment when you graduated from college or when your folks finally booted you out? That place probably made you appreciate the good deal you had before - even those cramped college dormitories may have seemed more attractive!

But even if you pay several hundred to several thousand dollars or more per month in rent, that expense may not seem so steep if you happen to peek at a home for sale. In most parts of the United States, we're talking about a big number - $225,000, $350,000, $475,000, or more for the sticker price. (Of course, if you're a higher-income earner, you may think that you can't find a habitable place to live for less than $600,000-$750,000, especially if you live in costly places such as New York City, Boston, Miami, Los Angeles, or San Francisco.)

Here's a guideline that may change the way you view your seemingly cheap monthly rent. To figure out the price of a home you can buy for approximately the same monthly cost as your current rent, simply do the following calculation:

Take your monthly rent and multiply by 200, and you come up with the purchase price of a home.

• $ _________ per month × 200 = $ _________
• Example: $ 1,500 × 200 = $300,000

So, in the preceding example, if you were paying rent of $1,500 per month, you would pay approximately the same amount per month to own a $300,000 home (factoring in modest tax savings). Now your monthly rent doesn't sound quite so cheap compared with the cost of buying a home, does it? (Note that in Chapter 3 we show you how to accurately calculate the total costs of owning a home.)

Even more important than the cost today of buying versus renting is the cost in the future. As a renter, your rent is fully exposed to increases in the cost of living, also known as inflation. A reasonable expectation for annual increases in your rent is 4 percent per year. Figure 1-1 shows what happens to a $1,000 monthly rent at just 4 percent annual rental inflation.

© John Wiley & Sons, Inc.

FIGURE 1-1: The skyrocketing cost of renting.

When you're in your 20s or 30s, you may not be thinking or caring about your golden years, but with the recent escalation in the price of virtually everything, especially housing, you need to account for inflation. Inflation is a dream-killer, so be sure to look at what happens to your rent over the decades ahead with just modest inflation! Then remember that paying $1,500 rent per month now is the equivalent of buying a home for $300,000. Well, in 40 years, with 4 percent inflation per year, your $1,500-per-month rent will balloon to $7,200 per month. That's like buying a house for $1,440,000!

In our example, we picked $1,500 for rent to show you what happens to that rent with a modest 4 percent annual rate of inflation. To see what may happen to your current rent at that rate of inflation (as well as at a slightly higher one), simply complete Table 1-1. (You can also access Table 1-1 online at www.dummies.com/go/homebuyingkitfd8e.)

If you're middle-aged or retired, you may not plan on having 40 to 60 years ahead of you. On the other hand, don't underestimate how many more years of housing you'll need. U.S. health statistics indicate that at age 50, you have a life expectancy of 30+ more years, and at age 65, 20+ more years (women on average tend to live a few years longer).

TABLE 1-1 Figuring Future Rent

Your Current Monthly Rent

Multiplication Factor to Determine Rent in Future Years at 4 Percent Annual Inflation Rate

Projected Future Rent

$__________

× 1.48

= $___________ in 10 years

$__________

× 2.19

= $___________ in 20 years

$__________

× 3.24

= $___________ in 30 years

$__________

× 4.80

= $___________ in 40 years

$__________

× 7.11

= $___________ in 50 years

$__________

× 10.52

= $___________ in 60 years

Your Current Monthly Rent

Multiplication Factor to Determine Rent in Future Years at 6 Percent Annual Inflation Rate

Projected Future Rent

$__________

× 1.79

= $___________ in 10 years

$__________

× 3.21

= $___________ in 20 years

$__________

× 5.74

= $___________ in 30 years

$__________

× 10.29

= $___________ in 40...