Author: wizardpc

If you’ve already got a house and you’re not planning on getting another mortgage ever again, skip this week. Otherwise, onward!

While this is geared more towards young couples who are renting, there are some valuable things in here for people who may be moving up–or down–in house. Once you’ve paid off all your debts and built up your emergency fund, you can start saving for a house!

Now if you’re anything like my wife, all the blood just drained out of your face. “You want me to wait a billion years and pay cash for a house?” Well, yes, but I realize most people aren’t willing to rent for 5-7 years longer in order to not get a mortgage. In fact, most people don’t want to rent for an extra two years and buy a small-ish home–they want to go straight for the three bed, two bath, two car garage in the nice suburban neighborhood near where they grew up.

Well, to do that is going to take a lot more money than you’re going to have so the first rule is lower your expectations. You’re not going to get the fancy house…yet. Later, when you’re a bajillionaire, you can have the nicest house in town–but by then you probably won’t want it.

So if you’re not going to pay cash, and you’re not going to go $300,000 in debt to get what you want, then what do you do?

You put 20% down and get a 15 year mortgage that has a payment of about 25% of your take home pay. The 20% down portion gets rid of PMI, which will cost you about $50/month for every $100,000 you borrow. If you are going with manual underwriting because you’ve never had a credit score, or your credit score has fallen because you stopped borrowing money, the large down payment will also get you a better interest rate since the bank will have instant equity if they have to foreclose on you. Less risk == lower rate.

Capping your payment at 25% of your take home pay prevents you from becoming house poor and protects you from foreclosure and other financial difficulty. Our house payment ended up being about 12% of our take home pay based on some things I’ll cover in a later post.

Getting a 15 year mortgage does three things: First, it lets you get a much lower rate because the bank is risking it’s money for half the time. It’s less exposed to risk, so your rate is lower. The second thing it does is it makes you build equity faster because you’re paying more towards the principal every year. Lastly, it saves you a boatload of money over the long run. Let’s look at an example:

Let’s say you bought a house with a closing price of $187,500. You put 20% down, so you need to borrow $150,000. At the time of this writing, interest rates on a 30-year fixed rate mortgage are around 3.75%, and for a 15 year they are 3.125%

With the 30 year, your payments will be $695/month and you’ll pay $100,000 in interest.

With the 15 year, your payments will be $1045/month, but you’ll only pay $38,000 in interest.

You save $62,000! That’s a lot of ammo!

Now, I hear you over there in the back saying “Yeah, but it costs $350 a month more!” Phooey! That’s like saying your IRA costs you $416 a month!

It’s forced savings. You get the extra $350 a month back when you sell the house! Wednesday I’ll go a little bit further into the math around financing, but for now just know this: The longer you have a mortgage, the more your house costs you.

Tomorrow, I’ll go over the process we went through when buying our first home.

Note before we begin: By the time you get here, you’ve probably got a pretty good idea for what works and what doesn’t in your household. This post is to provide guidance, not gospel.

“When you are prepared for the zombie apocalypse, a hurricane is just a storm.”

We’ve all heard that one, and it’s true. We like talking about the zombie apocalypse because it’s a very good way to talk about serious subjects without the buzzkill of reality. Hurricane prep isn’t fun, or sexy, anywhere near the front of your mind. You know you need to do it, but come hurricane time you’re in line buying plywood like everyone else who didn’t prepare. But Zombies? Now you’re talking!

Baby Step 3 is the financial equivalent of preparing for zombies. If you are ready to have zero income from any source for 6 months, the AC in your house going out is a just minor inconvenience.

After paying off everything except the first mortgage, Dave Ramsey’s recommendation is to stockpile 3-6 months of expenses. Since you’ve just finished your debt snowball, just consider this your last debt. Take that gigantic payment you were making on your student loan and start sending it to your money market account and you’ll be there in no time.

So, three to six months of expenses, eh? Well, do I do 3? Or should I go the full 6? What if I want more than that?

That’s up to you and your spouse. If you’re young and single, 3 months is probably okay. If you’re married with 2 kids and you’re the only one that works, 6 months may not be enough in the Obama economy. You probably don’t want more than 18 months worth of expenses sitting in an account getting (as of today) 0.9% interest, because really if you have to live on savings for more than a year you’re going to be looking at liquidating other assets anyway.

Note that this is 3-6 months of expenses, not 3-6 months of income. Expenses would be defined as those reoccurring items that you need to survive, but you can extend that to keeping your standard of living. Contributions to savings, extra house payments, retirement, etc, would not be included in expenses. Cable, rent, utilities, and blow money would be. This is whatever you decide, but in my house it comes to be a little more than half of our take home pay (we’ve continued to keep a modest standard of living despite getting significant raises).

If you’re married, the spouse that wants more money in this account wins! Let’s say you do the math and your monthly expenses are $2,000. Six months of expenses would be $12,000. You think you could get by with $10,000 but your wife says she needs $20,000 in the bank to feel safe. She wins! Now, if she said $100,000 then you’d have a case for her being unreasonable, so unless it’s something like that then just let it go.

One thing to remember, though, is that Baby Step 3 MUST BE COMPLETE before moving to Step 4: Saving For Retirement! If you don’t have a house yet, you have to have your emergency fund fully funded before you can start saving for your down payment (Baby Step 3b)! Take these things into consideration when discussing how large your emergency fund should be. Your husband will probably settle for a smaller emergency fund if he realizes he’ll get a garage sooner by doing that.

Having twenty thousand dollars(!) sitting in a bank earning monthly interest after having recently owed over forty thousand dollars plus monthly interest is an awesome feeling to have. I have things that keep me up at night, but money isn’t one of them. Like I said at the beginning, it turns what would be a major freakout level problem into a minor inconvenience.

It turns a hurricane into just another storm.