Chicago, IL
By A.B. Dada
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With the housing market quickly finding its equilibrium (meaning prices are down and will continue to drop), the Realtor’s favorite proclamation that “Now is a great time to buy!” keeps rearing its ugly head. Now is not a great time to buy. The last great time to buy was when interest rates were in the double digits, a hefty down payment was required, and a would-be homedebtor had no other debts to contend with. Thanks to your unelected Federal Reserve (and other Central Banks around the world), homeownership is something few families or individuals will ever realize: ownership means having a clean title. Debtorship means borrowing from others for decades, if not a lifetime.

I have friends lately asking me what is a good starter home in a good starter community. These friends are recently married (or planning on it), have newborns (or are planning on it) and are just out in the job market for the first time in their lives (usually less than 5 years from graduating college, usually burdened with school loan debt). My answer is: “It’s always a great time to find a starter home to rent.”

Starter homes make no sense. Purchasing a home historically has meant the following steps have been completely successfully:

1. You, and your spouse, are in a job market that has been consistent and secure for many years.
2. You, and your spouse, are clear of all debt burdens, including student loans, credit cards, personal loans, auto loans, and other debts.
3. You, and your spouse, have a significant amount of money to put towards a down payment, preferably 20%. This shows the banks, and yourselves, that you can actually save enough money each month to cover down periods of unemployment or illness.
4. You, and your spouse, can find a home with a total sale price of less than 3X the income of one earner. By trying to qualify for a mortgage using your entire household income (HHI), you’re taking a risk that you’ll both be employed at the current salaries forever. This is a tragic mistake that many families make, and one big reason why home prices skyrocketed once women entered the workforce en masse in the 70s. By finding a home that is less than 3X one salary, you can afford to have one spouse take time off to raise children or at least weather a job loss. Even if both lose their jobs, they can both return to work at a lower salary and still cover their mortgage.
5. You, and your spouse, have at least 1 year of mortgage payments, insurance, taxes and maintenance set aside beyond your down payment.

Item #1 is a key factor in finding your home. Starter homes are a green light to employers: “This employee now has a mortgage, so they’re stuck with us.” Renters are hated by employers; I know, I’m an employer. When an employee has no roots holding them back, they can always take better opportunities, maybe even in other cities. The moment you have a mortgage with little “skin in the game” (i.e., real equity), you can’t move at a moment’s notice. Even if your rental lease requires staying in the rental for the full term of the lease, at most you’re “stuck” for 12 months, and usually quite less if you’re really investigating where to make roots in the future.

If you’re new to town, renting gives you an opportunity to navigate different neighborhoods, find somewhere close to work to live at, and look for the best jobs and schools for your household’s future. Renting means no property taxes, maintenance, or general insurance. Instead you’re just covering the rental (and renter’s insurance) costs for a short period of time.

In terms of item #2, paying off all debt before purchasing a home is not just prudent, it’s safe. By allowing yourself to remove all payments but your home costs (and possibly healthcare), you’re giving yourself a nice cushion to increase your savings and investments. This also gives you the option of paying down your mortgage faster. I like to see people try to pay off a mortgage in 15 years, not 30. Some can even do it in 7 years if they don’t live beyond their means, by using both spouse’s incomes to pay down the principal on the loan. Having other debts means having to remember to pay everything each month, and a short-term burp in income can be destructive to a marriage, a family, and livelihood for years to come.

Item #3 sounds impossible for most families, but it is very possible if you consider how much money the average 20-something spends on frivolous items. Video games, pub crawls, new cars, new toys, expensive vacations, and expensive clothing are items you can easily take advantage of in your 30s, and by avoiding them when you’re young and finding your stable goals, you can maximize your work potential when you’re young and have the time and energy to take risks. Saving 20% is as easy and living with your parents (yes, it used to be done for generations) or renting with friends in a small 2 bedroom. Privacy lost means dollars saved. It’s not cool to be in debt but have your own place that you can barely afford. The late nights staying awake wondering how you’ll pay the bills can haunt your for years.

Item #4 is great advice: find a home that is not expensive based on one salary. When you do add the second salary in, you may have almost double of your money available to pay down your mortgage, save for the future, and plan for emergencies. If one spouse has a $50,000 annual income, buy no more than $150,000 in terms of the overall price of the home. The home I live in in Lake County, Illinois is worth around $130,000 currently. The mortgage on such a home can be paid off in 5-7 years with our household income. We also have a renter who covers the property tax portion of the cost of ownership, since there are no children in the home (other than me).

By buying less than you can afford, you can then afford to pay it off faster, putting you in place to be at the top of the saving pyramid in the country. Few people save, because they’re paying too much to live. Why not pay less to live so you can save more? Comfort, security, safety and ease in living all come with buying well beneath your means.

Item #5 is just common sense: if you have 1 year of payments in the bank, you can both go one year without working, which would be ridiculous to do unless you’re both lazy.

Don’t look for a starter home: look for a home. Don’t hope to spring up to bigger and bigger homes unless you’re planning on a huge family or planning to take care of a relative or parent in the near coming years. 1 bedroom per two people is more than enough, and what you save in purchasing price, utilities, and insurance will more than make up for that “lack of privacy” that people worry about. The average family of 4 could get by with 2 bedrooms, not 5. The cost difference may be the difference between retiring at 50 with a summer home and retiring at 70 and having to live with your kids.

Related posts:

1. Does 28% gross income for a mortgage include property taxes and insurance?
2. My fears about buying a home
3. Dada’s Rules Before Buying a House
4. How treated wood treats new home owners
5. What if no one can afford to live there?
6. Mortgage Short Sale: Forgiveness of Debt and the 1099
7. Foreclosures, and more bad government ideas
8. Home mortgages: sneak in the data
9. Full Reserve Banking and Home Mortgages
10. The idiocy of the HELOC (Home Equity Line of Credit)