Dave Ramsey Dishes Out Mortgage and Homeownership Advice

As I noted previously, Dave Ramsey was in my city a few weeks ago dispensing his brand of money management. I just ran into an interview he did while he was here and I found the following comments interesting

The only debt Ramsey allows in his program is for a mortgage, and only a 15-year fixed-rate mortgage. If you can't afford a 15-year mortgage, Ramsey is quick to point out, "you bought too much house."

I found these thoughts interesting not because I was surprised to hear Dave saying a mortgage is the only debt you should have (I think everyone knows he's very anti-debt) but because of the 15-year mortgage and "you bought too much house" comment.

Part of my formula for buying a house is to buy a house you can afford. In the past, I've also given a suggestion on what a house you can afford actually is and I've taken a lot of heat about it. Why? Because many people think there's no way to buy a house in their area given those parameters. But at least I would allow for a 30-year mortgage (though I'd suggest you try and pay it off early.) Not Dave. It's either a 15-year mortgage or no house. Wow. You all should have a field day in the comments section with this one.

The interview went on as Ramsey commented on the housing situation in Michigan -- which is among the worst in the U.S.:

Ramsey went further in warning not to be scared of buying a home right now.

"West Michigan's economy isn't going to be down forever," he says. "Five years from now, if you bought a bunch of real estate you're going to look like a genius."

This is part of my thinking in buying a new home. yes, we want to move anyway, but I think the housing market will eventually bounce back and I'm hoping what's a "good deal" today will become a "good investment" a decade from now. Only time will tell if it works out this way.

Comments

[JRich]

For once I agree with him. I actually wrote an acticle about a year ago on an old blog saying pretty much the same thing. Unless you have tons of other deductions or a really expensive house, the mortgage interest just isn't much tax deduction (vs taking the standard deduction). In addition, you get a lower rate with a 15 year vs a 30 year.

I am a strong belief in Home Value Laddering. You buy a hom at 50%-75% of what you can afford (something you can pay the 15 year mortgage payment on) and put it on a 7/1 ARM, 10/1 ARM or 15 year payment.

Then, when you can get it paid off, you can move to a new home (and repeat if you want).

I bought a $160k house a few years ago. Way under what people with similar income get in this area. But I will likely get it paid off in 5 more years. Had I bought what I could afford ($300k or so), I'd be buried for the next 15 years.

A simple example. 2 people with the same income. 1 buys a $400k home and 1 buys a $200k home. The first gets a 30 year mortage. The second gets a 15 year mortgage and pays the difference beween that and the first person's mortgage payment. Even if they get the SAME interest rate (which they will now) The second person can pay off their $200k home and move into a $400k home with that as a down payment after 9 years and 11 months. Then, they will pay off the mortgage on the 2nd house after another 9 years, 11 months. But, by that point, the person who originally had the $400k house will still owe around $200k.

A big difference if you ask me.

[Anne]

I think it's interesting that your commenters described the rule not to take on a mortgage that's more than double your income as "impossible to follow." It's not impossible to follow. If you can't buy a home under those parameters, you don't buy a home. There: you've followed the rule.

This sense of entitlement that everyone should be able to own a home in their preferred city (and preferred neighborhood within that city) is largely what led to this crisis we're in.

[JRich]

I agree also with everything Anne mentioned. Well said!

[beastlike]

I can see his point, but I think it just isn't rational for some people - especially people "starting out". Four short years ago there is NO WAY we could have afforded a 15 year mortgage on our home. However, 4 years later and we paid over 60k to principle and would have even smaller payments if we switched to a 15 year mortgage now.

[beastlike]

JRich - your logic is correct but sometimes it's not feasible. We bought the bare minimum and the home was about 250. We could have found something cheaper, but then we would be in the ghetto and have our lives at stake daily. If your good with handling your finances and not like a typical American spending more than they earn, Ramsey's comments are unnecessary.

[Kevin]

I think he is a little harsh with the 15 year or no house comment, but for the audience he is speaking to, it may not be bad advice. Most of them are probably overextended and might do better selling their current place, paying off debts with that money and renting for awhile. Kind of hitting the "restart" button if you will.

I just finished reading Dave's book and it does have some pretty good advice. Although I pretty much fall into his camp of hating debt already. (I do use credit cards though for the cashback.)

He actually mentions the 30 year mortgage and paying it off early concept, but follows up with the thought that most people come up with some excuse not to pay the extra every month. While this might be true, if you are disciplined enough it is more flexible than a 15 year mortgage and if an emergency really did happen you could cut back on the extra and just pay the "regular" payment.

[Anne]

beastlike's comments are exactly what I'm talking about. People just won't accept the "either a 15-year mortgage or no house" rule because they start from the assumption that they are entitled to buy a house. So if they look at houses in their city and determine they have to stretch to make the mortgage payments, that means the rule "isn't rational."

beastlike, it sounds like you took a gamble and it worked out for you--and I'm glad--but it hasn't worked out for a lot of people currently facing foreclosure.

[Anitra]

I don't have a problem with Mr. Ramsey saying that (even though I didn't take his advice in this area). I think far too many people buy more house than they can afford, because they're imagining a best-case scenario where they'll always be fully employed, be able to refinance to lower rates, etc.

Personally, we bought a house that was 2x our combined (pre-tax) income, but with the plan to have kids and drop down to one income in the next few years. When that happens, money will get really tight for a while - but we've crunched the numbers, and know exactly what we'll need to sacrifice in order to keep making the house payments.

[cory]

Anne, I like your attitude on the subject, and I abhor the sense of entitlement that most people suffer from, but I'd have to argue that it doesn't sound like beastlike 'took a gamble and it worked out.' Instead it sounds a lot like what I (and scores of other people) did.

I bought my house with, gasp, a 30-year mortgage, and then I MADE it work. There wasn't a sense of entitlement involved, I decided that it was time I bought a house, and I did. I made some sacrifices along the way, but I made it work. Had I bought my house and filled it up with absurd mahogany furniture, and hired painters and personal decorators to dress it up, and had a contractor come over to redo the porch while I went on a cruise in the Carribbean, I would be in a lot of trouble now but I would DESERVE it because it would mean that I AM A FAILURE.

Incidentally, I refinanced to a 15-year mortgage at an even lower rate later, THAT PART was luck. I was financially ready to keep the 30-year until it was paid off.

The point here, is that these absurd numerical rules like 'don't borrow more than twice your income' or 'if you can't afford a 15-year mortgage, you can't afford a house' are great for people who need to be babied and coddled and can't save their way out of the box their 52" flatscreen came in, but for those of us who don't shy away from responsibility, they're nothing more than condescending to the point of being insulting.

[Jennifer]

I'm not sure how I feel about Dave's comment. It does sound a little harsh, but after working in the mortgage industry (for a real estate closing attorney), more of the people buying homes were buying what they really couldn't afford, but the loan company said they could, and they had to be in this school district, in this neighborhood, etc, and for what? Just to say you do. So you end up as broke as your neighbor in a home you can't afford? Please. If you qualify for a loan of $300K then find a house for at least 75-80% of that, because the lender's don't take into consideration your car maintenance, house maintenance, child and personal maintenance, emergencies, insurances (besides the house), and every day living expenses. The only debt they use is what you give and what shows on the credit reports. If it's not there, then you seem to have a better debt to income ratio than you really do and people get in over their heads. The second problem is avoiding the mortgage insurance premium. The lenders qualify you for a 20% equity line and right off the bat you have 100% of your equity tapped. And if you don't make the payments on your equity line or second mortgage, but you make the payments on your first mortgage, you can still lose your house. The lender will foreclose on the second and take the house. You really do have to be careful in the choices you make. I would suggest talking to someone you trust when it comes to finances, or do your research on the internet, but don't just jump into a home because some lender or loan officer says you can. It's a big investment and you really should go into it with your eyes open and all the facts.

[7million7years]

I like Ramsey's advice, PROVIDED that you follow the 20% Rule (which I've written about before). That covers the 'equity' component.

What about the debt? Well, this IS consumer finance (you're not earning income on your house, are you?), so AFTER you put aside 10% to 30% for your, your children's, and the world's future, spend the rest on whatever you like ... including a mortgage.

One point to keep in mind; for the first time that I can remember BOTH money (i.e. interest rates) AND real-estate are cheap ... load up and wait!

[Anne]

@Cory - fair enough. I just think that saying these rules are "impossible" or "irrational" because housing prices are high misses the point and goes straight to what I was saying about people's sense of entitlement. It's one thing to look at a one-size-fits-all rule like this, then look at your own financial situation, and declare the rule inapplicable to your own financial situation. It's another to look at the rule, say "But then I won't be able to buy a house, and that can't be right!", and dismiss the rule.

[Minimum Wage]

So as I read Ramsey, some people cannot afford to buy ANY house.

In some of these cases, it will cost a person more over a lifetime to rent than if they had bought a home they "can't afford".

What would Ramsey say then? They can't afford to buy but they can afford to rent even though renting costs more?

[Joshua]

I would rather buy a much smaller home and take out a 30 year mortgage and pay it down in 15 years. Then, buy a house with a 15 year mortgage and try as hard as I can to make those payments. Dave Ramsey is bad at math.

[beastlike]

Anne - I am glad you sort of agree with Cory..... because looking back, we could have actually afforded to spend much more than what we did. Thus, it was definitely not a gamble. If people did their homework (adding up ALL the costs they will be responsible for: taxes, gas, electric, etc.) they should be able to determine what they can afford. As far as the possibility of losing one's job, even someone with a 15 year mortgage might not be able to afford the payments.....

The people I know that are causing this housing crash are people that were making less than 100k and buying homes $400k plus..... It's not that hard to figure out that they probably can't afford the payments, especially when you add $12k property taxes on top of the mortgage payments.

[Foobarista]

The problem with lots of these rules-of-thumb is they're based implicitly on particular interest rates, house sizes, etc. For example, lots of people say you should assume you'll spend 2-3%/year on house maintenance. But if you buy a condo in Silicon Valley, you'll pay far less maintaining your property, even if you count HOA fees as maintenance. Also, your insurance, etc will be proportionally lower than if you buy a similar-priced - but far larger - property in the Midwest.

Personally, I prefer cashflow metrics, based on payments from fixed-rate mortgages. For ourselves, we try to keep PITI (principal, interest, taxes, insurance) under 20% of our net income. We just refinanced from a 30 to a 15 year as our PITI is now under 10% of our income.

And there are many "moving parts" in these overall cost figures that make things more complex. For example, in a previous thread, there was a guy who complained about vast car expenses, utility expenses, etc in Texas. Where I live, houses cost a fortune compared to Texas, but I can ride the train to work in a half-hour, my utility bills are rarely over $120/month, and we don't need a huge house because we can go outside year-round.

So, the house costs a lot, and it's a bit small, but we can get away with paid-for cars that cost $3K or so per year total to keep, instead of spending $20K-$30K per year on cars.

[Anne]

@beastlike - I'm sorry if I extrapolated too much from your comment. I made an assumption based on the comment, "Four short years ago there is NO WAY we could have afforded a 15 year mortgage on our home." That sounded pretty adamant, as though even a 30-year mortgage was a stretch. (The difference between a 15-year $225,000 mortgage at 5.5% and a 30-year at 6% is about $500/month.)

[J in FL]

Yea, the way I like to think of Ramsey is like this: he gives good advice, but it doesn't always apply to me... and it doesn't apply to everyone. Like someone else has already said his target audience are the type of people who need to hear those sort of comments (and the type of people that I think would least likely be on a website such as FMF, IMO)

[beastlike]

Anne - I got you... I can see what you are saying, but an extra $500 after seeing my life's savings go to ZERO (stretching to get 10% down) would have made it nearly impossible to start saving for an emergency fund!

[beastlike]

BTW - we took a 4.75% 5-year arm vs. the 6% 30 year... so the difference was even greater than 500....

[Dave]

We bought a home that was less than 2x our total income at a 30 year fixed for 6%. We plan on living on the home for AT LEAST 10 - 15 years, if not longer. At the time, the interest rate on a 15 year fixed was about 0.5% less than the 30 year fixed, or about 5.5%. I figured that the extra money we saved each month by going with the 30 year fixed could be invested in an index fund which, over the long term, would return about 11%. So at the end of the 15 years when the home would have been paid off with the 30 year fixed, we have the option of using the money invested in the index fund and paying off mortgage and even having money left over. In the mean time, if interest rates go down, we have the option of refinancing.

I don't see why this is so terrible. Am I missing something here?

[Dave]

Sorry, I meant to say "So at the end of the 15 years when the home would have been paid off with the 15 year fixed . . ."

["Mo" Money]

I agree with J in Fl. Dave's speaks in generalities (as you should when talking to a national radio audience), and his advice will work for the majority of his audience. That being said, use common sense and apply it to your on situation and you will be O.K.

[Lord]

I honestly don't know anyone that buys more house than they can afford. I do know many people that live a life they can't afford. They then blame the house for their incapacity to manage their finances. Some people couldn't afford a house if it were given to them.

[Livingalmostlarge]

I'd love to support FMF here, there is a guy on the Financial Peace Videos, called JimFPU. He was debt free but went into debt to buy a house. Turns out he got a 15 year fixed but it's 41% of his income (bad no-no). Second he didn't put anything down! He did an 80/20, and now he's back on Baby step 1 because had a 4 month EF that he used up. I am guessing because his house payment is so high, he had to use savings to make ends meet.

Me thinks, that some people pretend to follow dave ramsey idolatry and then wind up screwed. He only focused on trying to afford the DR principal of 15%. But failed to look at the large picture. Sigh. Idiots.

[aaktx]

I listen to Ramsey's radio show, and the people who call in are usually overextended debt-ridden folks with middle class incomes and upper class tastes. His recommendations are simple but clearly wise: do not spend more then you have. I agree with his views on 15 year mortgages. I had one before I paid it off in 19 months. I bought a house low in value relative to my income and make do with what I have. Live well within your means and you feel rich. This needs to be taught in schools. His other advice is too simplistic, and he is kinda Suze Ormanesque.

[kitty]

I don't normally listen to Dave Ramsey since I've been doing fine without him my whole life. I like Suze Orman - her "can I afford it" segment is hilarious, and her views are less extreme. As to Dave Ramsey, from what I read about him I think his message works for his target audience, but he is extreme sometimes.

I strongly believe in getting less mortgage than one can afford - has done it with all properties I bought and sold in the past; except for my very first condo I gave over 20% downpayment: PMI is wasted money, and I don't like to waste money.

What one can afford depends on the interest rate and other costs such as property taxes, condo common charges, etc. 2*income rule was used when the interest rates were around 9%; when they were in double digits one could afford less; when the interest rates are low, one can afford more. I think formulas that use percentage of one's monthly income make more sense.

I think 30 year fixed mortgages are OK for young people if the rate is low. In this case there is a good chance that within 30 years the bank rates even on fixed CDs would be higher. People who took mortgages during late 60s, were ahead when the double digit inflation of the late 70s early 80s reduced their payments to nothing. Also, if one is young, there is a good probability the salary will increase reducing the mortgage to a small percentage of income. I did pay off my mortgage but a) I paid it in full from the gains b) my rate was 7% and c) I am not exactly young. I am still not sure if refinancing and investing my money would've been a better option, but what's done is done.

I am curious about this: "The only debt Ramsey allows in his program is for a mortgage". How does he believe young people whose parents aren't seriously rich could become doctors? Just an example, I am not a doctor, but I know enough from those who are to know that there is no way to afford medical school without loans.

[Florida Luxury Real Estate]

I think a 30 fixed is the way to go with no penalties to pay off early. Make an extra payment each year towards the principal and pay off in 15 years. This allows you for any unforseen event that might make a higher mortgage payment a problem. With one income especially what if you become sick or loss of job temporarily would be difficult.

[Mike]

I'm under contract for a home that I'm financing with a 30year fixed. I plan on paying it like a 15year fixed, but like having the option of paying the standard 30year payment. I'm also buying this home with my income, not the combined income of myself and my girlfriend. Once her debt is gone, we'll be able to pay it even quicker than 15 years.

My main goal is to get the 22% equity ASAP so PMI gets canceled.

I'm also 'breaking the rule' in that my mortgage amount is 2.3x my salary, but it's less than half the combined household income.

[Emily]

I really do not like Dave Ramsey and Suzy Ormond. I think they are probably well suited for a person with limited financial knowledge and I am sure help some, but I do not think their financial advice is always the best. I heard Suzy talking about how money market funds were better than investing in stocks b/c they were safer. That kind of attitude is dangerous. Taking risk with your money can be the only way to make money in the market, and with American's having to provide for their own retirement, it is essential that people have a portfolio with a heavy percentage of stocks. I was also bored to death when I watched her show. I have not read Dave Ramsey but he seems too conservative for me. I think that making extra payments on your mortgage is not as advantageous as putting that money into a Roth or 401K. Now if you are making so much money that you have maxed out a Roth of 401k, than go ahead, but in my opinion, I think it is an unwise decision. Havening a 15 year mortgage is also dangerous because you have to make the higher payments each month and if any thing were to happen than it could cause problems. Also, the standard rule of buying a home is to buy a home 2.5 times your salary. Under 2x seems a bit extreme (try doing that in Washington, DC).

[beastlike]

Mike - One suggestion... If you can afford the extra payments, take out a HEL and pay it ALL towards your home loan to get 22% equity in the home. That's what I did, but at the time, PMI wasn't tax deductible, so it hurt even more....

Taking out a 30 year loan and paying it like a 15 year loan is ideal (if your devoted enough to do it) because you always can hold off if you run into problems (i.e. temporary loss of job, etc.).

[Jennifer]

Well, we follow the Dave Ramsey plan - mostly. I have read many, many finance books and we even took FPU. I have found that no one program will be perfect for most people. Take what you can use and do that. While getting a 15 year mortgage is a great idea, that just wasn't possible for us. We did put 20% down and worked it so we pay our own taxes and insurance, but couldn't swing the 15 year mortgage. And we are fine with that. We have no other debt. You have to do what is best for your family, even if it doesn't follow someone else's plan perfectly.

[thomas]

getting a 15 year in my area on a townhouse (small and not even big enough for a family) would cost an extra $500 a month. I'd rather have that cash to invest. Loans are very cheap right now, and with a little effort you can earn more than your interest rate. I like the advice of getting the 30 and paying down faster while not being tied to such a high mortgage.

[Joseph]

I have heard numerous threads above that state one should go with the 30 yr fx in case something happens and you need to be able to make the payments. For those who have written those comments, do you not realize that Ramsey tells people to have an emergency fund of 6 months living expenses? With that amount of money in a emergency fund, the likelyhood of something happening and needing to pay smaller payments is rare. Many of the above posters are missing the overall concept Ramsey is portraying. Ramsey takes an even "more conservative" stance on debt for his personal life. After he lost everything he had, he rebuilt his financial life with the rule of no debt; not even mortgage debt. He did not buy a house until he could pay cash for it.

[CoLiving]

I'm not sold on his strict 15yr mortgage plan. I am a small business owner, have owned 3 homes, and all had the 30yr, 5/1 Arm loan (readjusts in 09/10), and current rate is 5.125%. Original primary loan amount on current was $260K (5/1 ARM libor) and HELOC was $27K. Due to my growing company, I have been able to make monthly pre-payments on principal and total balance due today is $230K and value of home is $350K. I hope to have this balance down to 180K at time of ARM adjustment, but point is that I'm not sure a 15yr fixed would have given me a comparable rate and allowed the prepayments towards principal I make monthly.

Some of us with flexible incomes like the flexibility in payments towards our mortgages, which an ARM offers. Thoughts?