When Should I Buy My First Home?
I don’t hear a lot of people asking me this question. It’s obviously an important question, but I think it’s because they realize that it is an invitation for a Realtor to use their magic mind control techniques to trick them into buying something. Well, I am exaggerating, if only a little. Insider tip: We don’t have magic mind control techniques, just in case you were wondering. If I could control people’s minds I wouldn’t have to work for a living.
I’ve explored the concept of when people should buy real estate at some length in my six part series of When To Buy And Sell. Here, however, we’ll look at a narrative of a first time buyer with a modest income. Everyone’s story is different, but my attempt here is to capture factors that are typical and show them in one story.
To answer the above question succinctly: “As soon as you can afford to make the payments. No sooner, no later.” To figure out if you’re ready, you should talk to a Mortgage Broker. That’s the first step and then if you’re financially ready, go ahead and buy something or wait and plan for the right time. The process of figuring out whether you are ready to buy or not of course involves many steps but it can be done in a matter of days if you are organized. The decision itself it quite simple really, it’s just that there is a lot of information that gets tossed around first. It comes down to “Can I afford this, safely?”
But some people want to understand the details. I’m one of those people, so I have written the narrative below for the like minded. If you are such a person, keep reading, if not you can walk away with what I’ve just said and skip to the numbers below.
Most of us leave home at around the age of 18. Whether we get a job or go to school first, we usually live in utter squalor with people who we thought we’d get along great with until we tried living with them. This is a time of cheap rent and debauchery. Wild times aside, we tend to pay as little as we can on rent at this point. Say, around $300/mo. as we’re splitting the total cost of the apartment or house with the other slobs, er, roommates.
Eventually, we either start earning enough to get a place on our own, get serious enough with a boyfriend/girlfriend to share a place with just them, or our parents help us out and we move into a nicer place which tends to mean more rent, say $400 – $700/mo. depending on the place and whether you’re paying for it alone or sharing the bill. It can and does of course go higher, but I don’t feel the need to include higher rent to make my point. Just the cheap to average stuff will do.
I’ve sold places to people under 20, and I’ve had first time buyers who were around 40, but I think for most people the first time they get themselves a place of their own is in their late twenties or early 30?s. For the sake of not over complicating my example, I’ll make it 28 years old when our imaginary first time buyer finally takes the plunge. At 28, you’ll have been paying rent for 10 years.
Have you ever thought about how much rent you’ve spent over the years? I’m going to do this for our 28 year old first time buyer. Let’s give him a name. We’ll call him Dante. Dante finished high school, went to college for a bit and has a job as a clerk in a local store. Dante is still single, so there’s only his income to support himself but things are going okay as he gets enough hours a week (sometimes more than he wants) to make ends meet and makes a little more than he needs to pay the basic bills. Let’s say that Dante lived as cheaply or nearly as cheaply as he could for the first 3 years, ($300/mo., which would total $10,800) then he spent 4 years living a step up from that (say $400/mo. which would total $14,400) and then he finally got a raise at work and felt he could handle paying $500/mo. for 3 years which would total $18,000. $500 may be high for someone who is sharing with another person, but it is also low for someone who is alone. I’m trying to average things out here.
So, after ten years on his own, Dante has spent a total of $43,200 to have a place to live before he even bought a place. This is not including all the times he got screwed out of his damage deposit, and the incalculable annoyance of always having to live by someone else’s rules and maybe under their noisy feet. And what does he have to show for it? I’ll let you figure that one out for yourself.
Now instead, let’s say Dante was a more motivated individual who planned his future and he managed to get his parents to cosign a mortgage with him when he was 21, and he bought a really cheap place. I’m going to use info from an actual listing that’s on the market right now, but to keep myself safe legally speaking I’m not going to say the address. If our first time buyer got their parents (or whoever with a good credit rating and is willing) to cosign his mortgage for this condo that is one of the cheaper 2 bedroom ones on the market, but not the cheapest. This condo is listed at $139,900, and let’s imagine he buys it for $134,000 after a couple of days of negotiating. At this price, the monthly payments would something like this:
$6,700 down payment (That’s your basic 5% down.)
3.29% financing (I’m seeing %3.09 advertised for five year terms right now but let’s keep the numbers higher as I want this post to still be meaningful in the future. By the way, I wrote a similar post to this a few years back and the rate was 5.5%. The historical average for rates is about 9%. Most people get caught up in thinking that house price changes are the big thing to watch, but for most people it is in fact mortgage rates that will affect their pocketbook the most.)
25 year amortization period
$3501.00 included in mortgage for CMHC Insurance (Ask your lender about this fee.)
This works out to $640/mo for the mortgage.
We also have to consider:
Strata Fees: $183/mo.
And property taxes:
$1070 per year which works out to $89.17/mo (You should get an annual tax rebate of $770 but let’s not include that and go with high numbers.)
This all works out to $912.17/mo. not including utilities.
Does that seem expensive? It shouldn’t. That’s roughly what comparable properties are renting for! So, in essence Dante is paying roughly the same amount per month to own the place (plus the occasional extra thing like getting the toilet fixed or the sink unblocked), except at the end of the month he’ll have more to show for his payments than just memories, He’ll have a home that he can keep and if he plays his cards right, eventually sell for a profit. And get this, in Canada, equity increase and the realization of it upon sale is tax free!
And yes, I know. There is always something in the news about real estate prices dropping. They’re pretty much always telling us that they are falling, about to fall or are at risk of some major catastrophe. First of all, we’re in Canada. Different story than the US or UK. More importantly, you need to understand that drops in price come and go, in the long term the property values increase. My rule of thumb is to expect to wait 5-10 years for the place to be worth more than you paid for it.
Don’t forget, this place has a second bedroom which Dante can rent out if he needs to. Meaning, that he can get someone else to pay for a portion of his place for him. Before, he had to endure those roommates in order to make rent, now he’s having them help pay for the place, if he should to choose to have one. Now, if he was in a serious relationship, the financial situation would be even better, but Dante is still pining for his lost love and is doing this alone. He’s glad he can also make decisions about things like smoking in the condo, and providing he follows the rules of the condo complex, he’ll be able to have some pets, unlike where he was renting before. He’s careful enough not to rely too heavily on that extra income though, as he knows his prospective roommates can and will eventually move out and he will still need to pay his mortgage while he looks for a new tenant. He keeps some money in some sort of investment that he can withdraw from easily. He thinks of these as his “just in case funds”. He figures that if he doesn’t end up needing them, he’ll probably make some money off the investment. Bonus. Maybe he’ll buy himself some nice roller hockey equipment with the extra cash one day. That is, after all, his passion.
Dante knows that nothing is without risk, but he feels that he has made a good choice. He is planning on selling the place in a few years for a profit, so he’s periodically looking at the local real estate market statistics to get an idea as to what is going on in that market. It looks like it won’t be anytime soon. But that’s ok. His work situation is stable and he will probably get a raise or even a better job in the next couple of years. At this point he might just rent out the existing place and buy something else if the market doesn’t make it worthwhile. That way he can make some money off of the place and use it to help pay for his new life. What he owes on the mortgage will go down and what he can charge for rent will go up. The value of the property should rise sooner or later and maybe he just won’t ever sell it as it will become a better money maker over time.
So instead of spending over $40,000 on rent, Dante is spending it on his own future. In the short term it seems like it’s a similar thing but years down the road his life will play out totally differently.
There’s just two more points that I’d like to make as I can already hear sentences starting with “Yeah, but…” coming from the doubting Thomases.
Objections 1 “Yeah, but what if the market plummets? Won’t I lose money?”
It depends. Like I said before, you shouldn’t lose money if you play your cards right. I’m not going to say that it’s risk free, because nothing in life really is. However, in terms of markets, they always go up in the long term. If you bought it today, and for some totally bizarre and unexpected reason the market plummeted next month, it just means that you’ll have to hold on to it longer before you can make anything off it. Instead of holding onto it for 5 years, maybe you’ll have to wait 10 or so. There isn’t a predictable formula for this, but the point is that although markets can and do periodically drop for a few years at a time, in the long term they will go up. Besides, read my posts and look at the stats on what’s going on in the market around here.
Objection 2 “Yeah, but isn’t most of our mortgage payments interest and not toward the property itself?”
There’s some pretty complex math here which I’m not going to get into, but in short, yes. There are so many mortgaging options out there, but typically the portion of interest vs. principal (What you pay the lender for their services vs. the money that goes directly toward paying off the property.) changes over time. There is more interest at first. You could dissect all of this like mad if you wanted to, but the point is that in the end you get to keep some of that money you’ve forked out in the form of equity. (The portion of the property that you’ve payed off.)
Ultimately, it all boils down to keeping some of that money you’re spending every month and if all goes well you’ll make a good chunk of money when you sell the place when you decide to move on to something better. Plus, owning means being able to paint one’s property any colour without having to get permission from the landlord, and it means paying your mortgage instead of your landlord’‘s. Owning means having an asset that grows over the years and not increasing your landlord’s asset holdings.