Free Money Finance

Why You Should and Shouldn’t Pay Off Your Mortgage

MoneyWatch details the reasons why you shouldn't pay off your mortgage -- then the author tells why he paid it off anyway.

Here are the reasons he gives for why you shouldn't pay off your mortgage:

• You need the liquidity.
• You could probably do better investing the money elsewhere.
• You expect inflation.
• You expect housing to rebound.

Then he tells why he paid off his mortgage anyway:

The logical explanation is that I had enough risk in my portfolio, and as for the low-risk portion of my money, it made no sense  to borrow at 3.0% after taxes and invest it at 2.2% in, say, Treasuries.  That would be acting like a very dumb hedge fund.

But there’s a less rational reason too. Like a lot of post-crisis Americans, I’ve had it with debt. I don’t want to be beholden to a bank and in an uncertain world I’d rather not have the certain obligation of a mortgage payment every month.

I asked Meir Statman, a behavioral finance professor at Santa Clara University about this caution, expecting a lecture about “availability bias,” or the exaggerated  fear of a bad event simply because it is fresh in memory. Instead, I was relieved to hear Statman admit that he’d paid off his mortgage too. “Maybe you could earn a higher return by arbitraging the difference between your mortgage and the stock market,” he said. “But you have to ask yourself what your money is really for,” he said. “Personally, it gives me satisfaction to know that I own the four walls around me.  Satisfaction and peace of mind are a kind of return, too.”

As you might imagine, I have a few things to say about the thoughts above. Here goes:

• As far as needing the liquidity, if your gap is large enough, you can have plenty of cash and pay off your mortgage as well. I was able to manage both.
• As for investing the money elsewhere and getting a better return, maybe you will do better, maybe you won't. This last year you would have done much better by having the money in the market. The couple years before that -- not so much. And, of course, paying off debt is a guaranteed return. Investing is not.
• Do you expect inflation? Or deflation? I don't know what to expect these days when it comes to our economy.
• As for a housing rebound, this sounds like the best bet to me -- if you have five to seven years to wait.
• And for the "had it with debt" argument, this is why I paid off my mortgage almost 14 years ago. I list "being deep in debt" as #3 on my list of the 10 worst money moves you can make, but for me having ANY debt was a bad money move. I wanted to get rid of it all asap -- and my house was the last to go (I didn't have much before that, though). So for the last 14 years, I've had satisfaction, peace of mind, and no mortgage payment. Yes, it's been sweet!

If you're in debt and think you can't get out -- you're wrong. Here are seven steps to get out of debt. Apply them over a long period of time and you WILL get out of debt -- including mortgage debt (if you work at it long and hard enough.)

Dave Ramsey is Living Large

Here's a piece that gives details on financial guru Dave Ramsey's new home. An overview:

• Palatial home next door to Lee Ann Rimes house on King Richard’s Court in the Cool Springs Franklin area.
• For the year 2010, the land market value is $750,000 and the improvement value is $4,159,200 for a combined total market appraisal of $4,909,200.
• With Dave Ramsey’s home having a total tax appraisal roughly double that of Lee Ann Rimes next door, we estimate the retail value of Dave’s house to be around $9-$10 million.
• A mortgage does not appear to have been recorded for the property.
• The tax record shows 3 levels in Dave Ramsey‘s Cool Springs home, totaling 13,307 square feet of living area and 1,454 square feet of garage.
• We checked with Middle Tennessee Electric and for the last 12 months, the average monthly electric bill at Dave Ramsey’s house was $1,285 per month.

As you might imagine, I have several thoughts on this one:

• I used to live in Franklin, Tennessee near Cool Springs and it's a beautiful area.
• $9-$10 million? Paid for in cash? Cha-ching!!!!! He's the man!!!
• He obviously practices what he preaches (no debt at all.)
• I always wonder why someone would need 13,000 square feet in a home. Maybe he's going to have 40 people move in with him?
• His monthly electric bill is close to my annual electric bill.

I have absolutely zero problem with Dave spending a fortune on an over-the-top house. It's similar to me buying new cars IMO: he can afford it, he has all his finances in order, so why not? Good for him!!!!

Of course there is an interesting biblical question here -- should he spend like that when there are so many other (needy) people that are suffering? But I'll leave that debate for a future Sunday post. ;-)

You know that one of Dave's signature lines is that, "If you live like no one else, someday, you'll be able to live like no one else." (In other words, if you save, keep debt free, and manage your money correctly -- things that most people do not do -- you'll someday be able to buy/do/afford almost whatever you want -- things that most people can not do.) Looks like he's living out that phrase!!!!

Second Homes are a Financial Killer

We've recently talked about owning second homes on a couple of occasions. I mentioned it when I talked about boats and cottages and it was a key reason one guy couldn't live on $1 million.

In addition, Dr. Thomas J. Stanley recently noted that, "Most millionaires can afford to purchase and maintain a vacation home.  Yet, as I mentioned in Stop Acting Rich, 64% of the millionaires surveyed never owned a vacation home, beach bungalow or mountain cabin, not even a lean-to or a tree hut in the woods." Why is this? Because second homes are often financial killers. Consider the following thoughts from the NY Times:

“People become slaves to their homes. They buy into the headlines and that makes them pretty miserable with their vacation homes.”

Mr. Pedraza said one common cause of second-home misery was that owners failed to factor in how much time and money were needed to maintain a place from hundreds, if not thousands, of miles away.

The Times goes ahead and lists a few things people should realize before they buy a second home:

• It's not an investment -- we all know real estate can go down
• It's less relaxing (than expected) -- you have to maintain the place
• It's time-consuming -- maintaining a house you live in part of the year has its own special set of to-dos

I'd add: it's expensive (they said it initially, but didn't give many details). You have to buy the place, then have insurance, maintenance, repairs, etc. -- almost everything you have at your main home. Then you need to buy furniture as well as "toys" (small boat, jet ski, etc.) for the second/vacation home. Yikes!!!

I'd lump time shares into the same bin as buying a second home. They are time-consuming and expensive as well -- and may be even harder to sell than a second home. Personally, I'd consider it very long and hard before I ever bought a second/vacation home.

And ideal situation: a close friend who has a vacation home, doesn't use it that often, and is willing to let you borrow it from time to time. Same principle holds true with boats IMO. ;-)

Five Reasons to Invest in College-Town Real Estate

The book Debt-Free U: How I Paid for an Outstanding College Education Without Loans, Scholarships, or Mooching off My Parents has one chapter near the end where it suggests buying a house/apartment/condo in a college town for your student to use while he goes to school there. The book lists five reasons doing so may be a good idea:

• Provide a place for your child to live during and maybe even after college.
• Help your kids learn about real estate and investing before most of their peers will have had any experience with either.
• Make an investment that can be an important part of your retirement plan, providing the potential for strong cash flow and long-term capital appreciation.
• Save you money on taxes.
• Lower the cost of college by securing housing less expensive than a dorm and freeing you from eight-dollars-per-meal cafeteria food.

The book doesn't recommend everyone pursue this option -- it simply says that it should be considered. Obviously the results and opportunities can be very different by market/college.

Our neighbors are doing this for their daughter. She's going to graduate school and will be there for four to six years. They purchased an apartment (during the market's drop, so they got a good price) and she'll live there while she goes to school. Afterwards I'm not sure what they plan on doing, but they could either sell it (it's not a stretch to think it will appreciate during that time) or keep renting it out to provide income. Or perhaps their daughter will even become employed by the college and buy it herself. There are lots of options available.

Anyone out there ever done/considered this? What are the pros and cons?

Another Key to Selling a Home

Yahoo lists a key to selling your home as follows:

Attention desperate home sellers. Don't want to lower the price on your house? Consider better photos. Real-estate listings that use photographs taken by the higher-end SLR cameras favored by photographers and photography enthusiasts, tend to do better than those that use photos from cheaper point-and-shoot cameras, according to a new analysis done by Redfin Corp., a Seattle-based brokerage.

Not surprisingly, listings with better photos command higher asking prices: If you believe your home is worth the investment of good photography, you'll probably ask more money for it. The surprising part is that the tactic works. At the closing table, listings with nicer photos gain anywhere between $934 and $116,076 — as measured by the difference between asking and final price-over listings using photos from point-and-click cameras.

One exception: The low end of the market. Listings priced below $300,000 were less likely to sell with nicer photos, possibly reflecting unrealistic expectations on the sellers behalf. At the low-end, price cuts would seem to be more important than photography.

Ha! I guess I own a home at "the low end of the market" (my home is probably worth $180k at most.) Then again, I live in a community where $180k gets you four bedrooms, 3 1/2 baths, and 2,800 square feet in a nice neighborhood. (FYI, here's an interesting list of what $300k buys across the country.) I guess location really does matter, huh? ;-)

Then again, having a home that's worth $300,000 or below puts anyone in pretty good company.

Ok, but let's stick with the topic -- if you have a "nicer" home (aka above $300k), you may want to invest in good photos of it. If the photos cost you a few hundred and you make a few thousand more on your home, it's well worth it, right? But I don't think you can ignore other aspects of selling your house simply because you have photos of it. For instance, you'll still need to price it correctly, be sure it has good curb appeal, is well decorated, is well maintained, etc.

A New Rule-of-Thumb for Renting versus Buying?

Here's a piece from Dr. Thomas Stanley that cites a NY Times article with a new (at least new to me) rule-of-thumb for helping to determine whether it's better to rent or buy a home. The specifics:

The New York Times recently published the results of an analysis it did on a decision criterium it refers to as the "rent ratio."  This ratio is described as: "the purchase price of a house divided by the annual cost of renting a similar one.  The number 20 provides a useful rule of thumb.  When you do the math, you discover that a ratio above 20 means you should at least consider renting, especially if you may move again in the next five years or so.  When the ratio is well below 20, the case for buying becomes a lot stronger."

Interestingly, I have received several e-mails from people asking how they should go about purchasing a home in high priced areas such as Los Angeles and San Francisco.  Given their salary, and their respective rent ratios, they should seriously consider renting instead of buying.  For example, in 2009, the rent ratio for San Francisco was 28.4 albeit down from 40.4 in 2005.

For those who are truly interested in building lasting wealth no matter where they live, they may have to consider renting instead of owning, especially in this current economic climate. In such cases, one's ego enhancement will come from taking affirmative action, i.e renting not owning, with the goal of becoming financially independent as a result. As I said in Stop Acting Rich, "Happy people tend to live in homes that they can easily afford."  And, for some, renting provides a much more affordable option.

A few thoughts from me:

• Anyone else heard of the "rent ratio"? Maybe I'm the last one to discover it. That said, it sounds useful. Does anyone have experience applying it? (remember the renting cost needs to be "a similar" house -- I'm sure renting would almost always win out if you compare buying a three-bedroom, 2,500 square-foot home versus renting a one-bedroom, 1,100 square foot apartment).
• I did my numbers using the formula above (guessing at the rent cost) and ended up with 9, so I guess it's good I bought a home. ;-)
• Note, yet again, how living in an expensive market can change things pretty significantly. I know that if we lived in a home like ours anywhere near San Francisco, New York, Boston, etc. than we'd certainly be getting a much higher number than 9. The reason San Francisco is down is likely due to the drop in housing values -- and it's still 28!
• If you recall, we discussed the relationship between the wealthy and the homes they buy not too long ago. For a refresher, see The Greatest Detriment to Building Wealth and Why Many Homeowners are Having a Tough Time.  

Of course the rent versus own question is timeless and we've discussed it here several times. If you missed those conversations, check out Should You Rent or Buy? and The Eternal Question: Rent or Buy?

The Not-So-Top Ten

The following is an excerpt from Buying a Home: The Missing Manual.

Question: What problems and issues appear most frequently during a home inspection?

Be on the lookout for these problems, which, according to a survey of ASHI members, are most likely to turn up during a home inspection:

1. Improper surface grading and drainage. This problem, reported by 36 percent of home inspectors, can mean that water is damaging the foundation and getting into the house.

2. Improper and undersized electrical wiring. The second most-frequent problem shows up in the electrical system. Specific issues include insufficient electrical service to the house, aluminum wiring, inadequate overload protection, improper grounding, and dangerous amateur wiring connections. Because a faulty electric system is a safety hazard, put problems like these high on your must-fix list.

3. Older and damaged roofs. Deteriorating shingles or poorly installed flashing can result in a leaky roof.

4. Deficient and older heating systems. Heating system issues include broken or malfunctioning controls, blocked chimneys, unsafe exhaust flues, and cracked heat exchangers. As with the electrical system, a faulty heating system can pose a serious health risk.

5. Poor overall maintenance. This category reflects what happens when a homeowner doesn't take proper care of his residence: cracked or peeling paint, crumbling masonry and broken fixtures and appliances may signify an owner who hasn't paid much attention to maintenance.

6. Structural problems. Older homes are especially likely to have some damage to foundation walls, floor joists, rafters, or windows and doorframes. These problems are often minor—but ask.

7. Plumbing problems. Old piping material, broken fixtures, and faulty water heaters are frequent issues in this category.

8. Exterior items. Outside the home, doors, windows, and wall surfaces sometimes let the elements in. Degraded weather-stripping or poor caulking is often the culprit.

9. Poor ventilation. Without proper ventilation, moisture can accumulate inside a home and cause rot, deterioration, mold growth, and other damage.

10. Miscellaneous items. This catch-all category includes problems found in the home's interior, from lead-based paint and asbestos insulation to windows that stick rather than open smoothly.

What to Do on a Home Final Walkthrough

The following is an excerpt from Buying a Home: The Missing Manual.

Weeks—or sometimes months—can pass between the time you make an offer on a house and the day you take possession of it. In between, things can happen that affect the home's condition—an appliance might go kaput, the owners' toddler could dump a half-gallon of grape juice on the white living-room carpet, the roof could spring a leak. That's why you put a final walkthrough contingency in your purchase agreement—so you can check for last-minute problems before the house becomes yours.

If the home has been sitting vacant, problems might go unnoticed and unrepaired, until you have the bad luck to discover them after closing. You don't want to find that a burst pipe has flooded the house or that the seller has removed appliances or fixtures that were supposed to convey with the sale. If the seller is still living in the home or has recently moved out, check to make sure no recent damage has occurred—walls and floors can get pretty banged up when the seller moves his furniture and personal property.

What to Look for on the Final Walkthrough

Although a "walkthrough" sounds like a quick, casual check, dispel that notion. Take your time. Don't get distracted by deciding whether the sofa should go against the far wall or under the window—you'll figure that out later. Your priority is to make sure the house is in the condition you expect. If the seller made repairs and you haven't inspected the work, you might want to ask a professional to walk through with you, to make sure the repairs are complete. Also, bring a camera so you can document any problems.

Tip: If you took photos when you toured the home or during the home inspection, take them along to the final walkthrough. Use them to compare the condition of the home when you made the offer with its current condition.

In all likelihood, the next time you walk through the house, it'll be yours. Make sure it's in the shape you expect by doing a thorough check of all areas of the home, inside and out. Here's a summary of what you're looking for:

Outside the home

• Visually inspect the home's exterior, including the roof, siding, shutters and trim, and so on, looking for any changes since you signed the purchase agreement.
• Inspect the driveway and walkways.
• Check the grounds—are the trees and landscaping the same as when you made the offer?

Interior rooms (general)

• Open, close, and lock/unlock all doors.
• Open, close, and lock/unlock all windows, and check for missing or damaged screens.
• In each room, inspect the ceilings, floors, and walls for physical damage (such as dings, gouges, or scuffs that the seller may have left when he moved out) and water damage (stains, dampness, soft spots).
• Check the cleanliness of any carpets.
• Make sure closets are cleaned out.

Kitchen

• Open the fridge to make sure it works.
• Turn on all the stove's burners and oven.
• Test the light and fan in the range hood.
• Turn on the dishwasher.
• Run the garbage disposal.
• Test any other appliances.
• Run both the hot and cold water in the sink; check for clogged drains and in the cabinet underneath for signs of a leak.

Bathroom

• Run water in sink to check water pressure.
• As the water runs, check under the sink for leaks.
• Turn on faucets in the tub/shower.
• Check for clogged drains.
• Flush toilet.
• Turn on the exhaust fan.

Utility room

• Turn on the washer and dryer.

Garage

• Test the automatic door opener.

Attic and basement

• Look for areas that are damp, wet, musty-smelling, or show visible mold.

Electrical system

• Turn each light switch on and off.
• Turn on ceiling fans and exhaust fans.
• Test electrical outlets.

Heating/cooling system

• Turn up the thermostat a few degrees and make sure the heat comes on.
• If the home has central air conditioning, turn down the thermostat and verify that the air conditioner comes on.

Miscellaneous

• Confirm that all conveyances remain in the home.
• Make sure there's no trash or debris left behind.
• Check that the seller removed all his personal property.
• Check that the seller has made all agreed-upon repairs. Tip: Bring along a list of issues that the home inspector found that weren't serious enough to require repairs. Check that these problems haven't gotten worse since the inspection.
• Ring the doorbell.
• If there's a security system, test it. Tip: Before the final walkthrough, make sure the security service has your phone number as the designated contact. You don't want to set off the alarm and have no way to stop it.
• Make sure you have the owner's manuals for all major appliances (furnace, central air conditioner, and so on).
• Test railings on stairs, decks, and porches to make sure they're firmly attached.
• Check that any built-in shelving is stable.
• If there's a fireplace, make sure it's clean; open and close the flue.

Tip: If the seller has left junk behind on the property, find out how much it would cost to have it hauled away. Ask the seller to put that amount of money into an escrow account and get a written agreement that the seller will remove the junk by a certain date—if not, you can use the escrow money to pay someone to take it away.

Different Types of Real Estate Agents and What They Do

The following is an excerpt from Buying a Home: The Missing Manual. At the end I've included two sidebars (in red) on related topics.

In your quest for a new home, the person you'll interact with most is your real estate agent. She's a lot more than a smiling face in the classifieds, hovering over pictures of homes for sale. She's a licensed professional, authorized to negotiate and carry out the sale of real property on behalf of a buyer, a seller—or sometimes both simultaneously. Read on to learn the different roles real estate agents play, how they make their money, and—most importantly—how you find one who works well with you.

Agents and Brokers and Realtors

Every state and the District of Columbia require real estate agents to hold a license, but not all licenses are the same. Most states define two types of real estate professionals: broker and agent. But you may come across several other terms as well. Here's the lowdown:

• Real estate broker. This is an experienced real estate professional who has met state requirements to own, manage, or operate a real estate company. Licensing requirements usually include experience in the industry as a sales agent, advanced coursework, and passing an exam. (In some states, attorneys can become real estate brokers, even if they've never worked as real estate agents.) The broker in a real estate firm is its "boss," the person who takes responsibility for all the agents who work there. Depending on where you live, you may hear real estate brokers referred to as principal brokers or qualifying brokers.

Note: Some licensed brokers choose not to run their own firm but to work as agents for another broker in that broker's firm. These people are called associate brokers.

• Real estate agent. This is someone who's taken classes and passed a state-administered exam to get a license to sell property. The educational requirements cover the specific state's real estate laws and practices. Real estate agents are associated with a real estate broker and act under that broker's authority. Depending on where you live, real estate agents may be called subagents, sales agents, real estate salespeople, or, confusingly, brokers.

As you look for a home, you'll probably work primarily with a real estate agent. Real estate agents can represent the seller of a house, the buyer of a house, or both:

• Seller's agent. Also called a listing agent, this person works exclusively for the seller. Most often, you'll deal with the seller through the seller's agent. Except in cases where you have a specific agreement with an agent to represent you as a buyer (see the next item on this list), you should assume that any agent you work with is a seller's agent. Even if an agent didn't personally list the seller's property, any agent involved in the sale of a property is considered a subagent of the listing agent—unless that agent has a contract to represent only you, the buyer (see "Buyers' Agent" below).

Note: Agency means representation, and an agent is a representative. If you enter into an agency agreement with someone, it means that you've both agreed that that person will act as your representative.

• Buyer's agent. A buyer's agent works solely for you the buyer, and represents your interests throughout the real estate transaction, from initial house hunting through closing the deal. Buyer's agency is a formal agreement, signed by you and a particular real estate agent, saying that the agent represents you and your interests in buying a home.

Tip: In a transaction, the buyer's agent is called, confusingly enough, the selling agent. To keep from being muddled by the terminology, think of agents' roles this way: In transactions that have both a listing (seller's) and a buyer's agent, the listing agent puts a home on the market and represents the current owner; the selling agent facilitates the sale by representing the buyer who makes that sale possible.

• Dual agent. This is a single agent who represents both the seller and the buyer in the same transaction. In most states, dual agency is legal so long as the agent gets the consent of both the buyer and the seller. But as the box on Section 4.1.2 explains, dual agency can lead to conflicts of interest.

Note: Dual agency can also occur when two agents who work for the same broker represent both parties in a real estate transaction. The box on Section 4.1.2 tells you more.

As a homebuyer, you should work with a buyer's agent. You want to be sure that your interests are represented in negotiations and that your agent keeps your confidential information to herself. Later in this chapter, you'll find out how to choose a good buyer's agent.

Note: If a real estate agent fails to let you know that you're in a dual agency situation—that is, the agent represents both you and the seller or both your agent and the seller's agent work for the same firm—you may be able to revoke the purchase agreement you signed and sue the agent for concealing the relationship.

What a Real Estate Agent Does

Real estate agents are experts in local real estate: They monitor the market daily and look for housing trends (in prices, inventory, location, and so on). An agent tells you about available houses in your price range and takes you on tours of homes that interest you. Much of an agent's day is taken up by phone calls, meetings, and home tours.

For sellers, a listing (seller's) agent:

• Researches recent sales of comparable homes to help determine an asking price
• Helps sellers prepare their homes for sale
• Lists the home with the Multiple Listing Service (known in the trade as the MLS, a searchable list of homes for sale within a particular region)
• Advertises the home through various channels, which may include the Internet, classified ads, real estate magazines, and on-site advertising (the latter usually comprising a "For Sale" sign on the lawn and takeaway information sheets about the home)
• Takes other real estate agents on a walkthrough so they can tell their clients about the home
• Hosts open houses
• Presents offers from interested buyers
• Negotiates the terms of the sale

As a buyer, you can expect a real estate agent (either the seller's agent or your own) to work with you in these ways:

• Listen to your priorities in looking for a home, including your price range
• Contact listing agents to check availability and schedule showings
• Show you suitable properties
• Notify you as new properties appear on the market
• Suggest sources of financing. Tip: You're not bound to work with any lender recommended by an agent. Section 8.2 has tips for finding the best mortgage.
• Help you write a purchase offer and present that offer to the seller
• Negotiate with the seller on your behalf
• Write a purchase-and-sale agreement (Section 10.2.1)
• Set up and attend the home's appraisal and inspection
• Review disclosure statements and let you know about problems with a property. Tip: Agents know what to look for in disclosure statements and other documents. Although it's important to find an agent you like, the most important quality an agent has to offer is his expertise.
• Deal with contingencies (Section 10.2.3)
• Provide information to your mortgage officer, real estate attorney, and escrow officer
• Coordinate with other parties to schedule the closing
• Attend the closing

Note: There are some things a real estate can't tell you by law. If you have questions about a neighborhood's character, diversity, crime rate, or schools, you have to look elsewhere for the answers. Federal fair housing laws prevent real estate agents from "steering" clients toward one neighborhood or away from another one. The idea behind the law was to prevent discrimination—to prevent real estate agents from deciding whether a client is a good or bad fit for a particular neighborhood. Despite the law's good intentions, it can be frustrating to have basic demographic questions go unanswered. Chapter 3 suggests ways to find those answers.

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Sidebar #1: Frequently Asked Question: Real Estate Agent vs. Realtor

What's the difference between a real estate agent and a Realtor?

REALTOR® is a registered trademark of the National Association of Realtors. Any real estate agent who claims this title must be a member in good standing of the NAR. To join the NAR, agents agree to abide by a code of ethics that includes honesty, putting clients' interests ahead of their own, and disclosing all relevant facts about a property.

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Sidebar #2: Up To Speed: Dual Agency

You're just starting to look for a new home and haven't yet selected a real estate agent. One weekend afternoon, you drive through the neighborhood where you want to live and see an Open House sign. You stop to take a look. Inside, everything is perfect. The house has the right number of bedrooms and bathrooms, the kitchen is a cook's dream, and the place is in move-in condition. "I love it!" you tell the smiling real estate agent who's hosting the open house. "I want to make an offer."

"Great!" she replies. "Let's write up the paperwork."

She looks nice. She's friendly and helpful. She's eager to help you buy the home. But there's just one problem. She's already representing someone: the seller.

Real estate agents have a fiduciary duty to their clients. That means that a real estate agent—whether a seller's or a buyer's agent—is legally bound to represent your best interests in any transaction. But when you start negotiating with a seller's agent, your best interests don't always line up with theirs. Yes, you want to buy the house and the seller wants to sell it. But you want to buy the house for the lowest price possible, and the seller wants to sell it for the highest price possible. See where the conflict comes in? In that situation, how can the same agent have the best interests of both of you at heart?

Most states allow dual agency, on the condition that the real estate agent tells both you and the seller that she's representing you both—and all parties sign a document agreeing to that. But before you agree to dual agency, think long and hard about whether you want the seller's agent representing you, too. For example, you might tell your agent confidentially that you've been preapproved for a mortgage of up to $250,000, but you don't want to bid more than $230,000 on a particular home. The agent knows that the seller wants to get at least $245,000 for that same home. Although a good agent always keeps your confidential information confidential, it may be tempting in this situation to try to convince you to raise your offer.

Dual agency also comes into play when a homebuyer and seller are represented by two different agents who work for the same broker. This kind of dual agency may be called designated agency, and if your state allows it, you'll probably have to sign a statement saying you agree to have the same agency represent both you and the seller. Some agencies pay agents a bonus for selling in-house listings because the agency makes more money in such transactions—conflict of interest, anyone? If you want to buy a home that's listed with your buyer's agent's brokerage, make sure that your interests come before the broker's.

Keep an Open Heart and a Critical Eye

The following is an excerpt from Buying a Home: The Missing Manual.

Buying a home is an emotional experience. To buy smart, you need to engage heart and head alike. Although you should fall in love with the home you buy, you also want to be sure that you're getting a house that's a good value and will suit you and your family for the years you live there. These suggestions will help you see homes clearly as you tour them:

• Don't be distracted by nice touches. Smart sellers make their homes look as welcoming as possible. They take down family photos (because it's harder to imagine yourself living in a house with smiling strangers on the wall), remove pieces of furniture to make rooms look bigger, put out fresh flowers or bowls of fruit, and hang mirrors or position lamps to brighten dark rooms. This is called staging, and its purpose is to direct your attention away from a home's less attractive features through the use of props. Don't spend the tour admiring the dining room curtains or feeling tempted to relax on a pillow-covered sofa. Focus on the house, not its contents.

Note: Professional stagers make a living by helping sellers transform ordinary houses into showplaces to impress buyers.

• Walk through the house as though you already live there. No, that doesn't mean taking a quick nap on the owner's bed or putting your feet up on the coffee table as you watch TV. But do think about how you use your home and see whether this home fits the way you live. For example, imagine yourself preparing a meal as you look around the kitchen. Is there sufficient counter space? Where would you keep pots and pans? Is the dishwasher convenient to the cupboard where you'll store dishes and glassware? How about the bedrooms? Are they conveniently located relative to the bathrooms or will you have to walk halfway through the house in your bathrobe to get to the shower each morning?

• Put on your home inspector's hat. You'll hire a professional to do a complete home inspection and you'll do a thorough walkthrough if you decide to buy the house, but on this first look, simply keep your eyes peeled for potential problems. Here are some things to watch for:

• Light switches. Flip them on and off to make sure they work.
• Water pressure. Turn on faucets in sinks and tubs to check water flow.
• Toilets. Flush toilets to make sure they empty and refill completely.
• Floors. Do they squeak (that's a sign of loose nails)? Are they level or slanted? Are there soft spots next to the toilet or tub (that indicates water damage)?
• Walls. Do you notice any cracks or bulges? They might be a sign of structural problems.
• Doors and windows. If they stick or don't close squarely, you may need to repair or replace them—or they could be a sign that the foundation isn't stable. Check exterior doors to see whether light gets through around the edges when the door is closed; if so, you may need to add insulation or refit the door.
• Sills. Look for signs of water damage, such as mildew or mold. Also check for peeling paint; in older homes, the paint may be lead-based. Note: Federal law requires that sellers of homes built before 1978 give buyers a lead disclosure statement. See Section 5.3.6 for more information about this form.
• Drafts. Check around windows and doors and along exterior walls. If the house is drafty, you'll probably have to add insulation.
• Ceilings. Are there any stains or signs of water damage?
• Heating/cooling system. If it's winter, is the ground floor warm or chilly around the edges? If the weather is warm, is the upstairs too hot?
• Appliances. Is the refrigerator cold? Do all of the burners work on the stove? If appliances come with the house, you'll want to do a quick check that they're in working order.
• Cabinets. Do the doors open and close easily? Are their shelves in good condition?
• Odors. If the house smells funny, you may have trouble getting rid of that odor after you move in.
• Basement. Are there cracks in the foundation? Those can indicate a need for expensive repairs.
• Roof. From the outside, check the roofline. Is it straight or does it appear to sag anywhere? Scan the roof for missing shingles or sagging areas. (Binoculars can help here.)

• Remember that selling a home is an emotional experience for a homeowner. If the seller is present as you tour, don't make disparaging remarks about decorating choices or funny smells (but do make a note of any odd odors in your notebook). The seller doesn't have to agree to sell to you—and if she takes a dislike to you, she probably won't. On the other hand, don't gush over the home, either. If you come across as desperate to buy the place, you'll put yourself at a disadvantage when it's time to negotiate. Finally, if the seller seems particularly proud of some aspect of the home, you can make a favorable impression by complimenting the seller on it. For example, if the home has beautiful landscaping, you can admire it and talk about how you'd maintain it if you owned the home.

• When you're thinking about making an offer, visit the home again. Try to visit on a different day and time. Write down any questions you have or things you want to double-check to make sure you don't forget any concerns during the second tour. Bring along your checklist and notes, and compare your impressions on this visit with the first.

Tip: Sometimes, you'll know that a home isn't right for you as soon as you set foot inside the front door. If that happens, you can go ahead with the tour if you want—maybe the property is a diamond in the rough—but don't feel obliged to tour a home you know you won't buy. Doing so is a waste of time, yours and the agents' alike.

How to Improve Your Chances of Getting a Mortgage

The following is an excerpt from Buying a Home: The Missing Manual.

Before you apply for a mortgage, improve your chances of approval by putting your financial house in order.

• Improve your FICO score. If you've got a blot on your credit history that's pulling down your score—or if you just want to bump up a "good" score to a "very good" or "excellent" rating—take steps to improve your score well before you apply for a loan. Because your FICO score reflects your behavior as a borrower over time, it can take months or even years for a score to improve. Follow these tips to move up the FICO scale:

• Pay your bills on time. If you tend to forget exactly when each bill is due, set up automatic withdrawals to make sure payments get made when they should.
• If you're behind in your payments, get caught up as soon as possible—and then pay on time. The longer you keep your accounts current, the more your score improves.
• Reduce your credit card balances. High balances on revolving accounts pull down your score. If you're carrying a high balance on one or more cards, pay down the amount you owe.
• Reestablish a good payment record. If you've run into trouble with credit accounts in the past, open a new account and be meticulous about using it responsibly—don't borrow too much and be strict about making payments on time. It takes time to rebuild good credit, so be aware that it may take years for your score to recover.

• Don't quit your job. Lenders look for income stability. If you're a job-hopper, or if you leave a job shortly before you apply for a mortgage, you may look like a higher risk than if you've been employed consistently for the last several years.
• Reduce your overall debt. As Section 2.3 explains, lenders don't like total monthly debt that exceeds 36 percent of your gross monthly income. If you carry a lot of debt, the bank will scale back the amount of money it's willing to lend you. Reducing your debt makes you look like a better risk, and the debt won't squeeze your monthly PITI too far below its 28 percent ceiling.
• Spend small. The flip side of reducing your debt is making sure you don't increase it. For at least six months before you apply for a loan, avoid buying big-ticket items, such as a new car or a washer/dryer set or anything else you need to buy on credit.
• Boost your down payment. As you'll see in Chapter 6, lenders like to see hefty down payments, because the greater the investment you make out of your own pocket, the less likely you are to default. If you can put down more than 20 percent toward the purchase of your home, you'll find it easier to get a loan than with a lower down payment.
• Don't apply for a lot of new credit. As Section 2.3.4.1.3 explains, lenders look at how long you've maintained your accounts and want to see responsible repayment over time. Opening a lot of new accounts at once may make you look desperate for some quick cash. It also affects your debt-to-income ratio (Section 2.3).
• Don't cancel existing credit cards. Lenders are interested in how much money you currently owe in relation to the credit you have available. This is called the credit-utilization ratio. Say you've got three credit cards, each with a $10,000 credit limit. That means you've got $30,000 in available credit. If you have a $7,000 balance on one of those cards, a $2,000 balance on the second, and a zero balance on the third, you're using 30 percent of your available credit. But if you cancel the zero-balance card, your available credit drops to $20,000, which makes your credit-utilization ratio soar to 45 percent. Using a higher percentage of your available credit makes you look riskier to lenders.

How to Hire a Home Inspector

The following is an excerpt from Buying a Home: The Missing Manual. And remember, there are certain things home inspectors don't do -- be sure you know what these are and handle them as needed.

In the movie The Money Pit, a young couple buys what looks like a beautiful home at a bargain price—until the house starts to fall down around them. A home inspector makes sure you don't meet the same fate.

When you tour a home, it's easy to notice the cosmetics—you like the carpet in the living room, but the kitchen cabinets have got to go. But how do you know whether the home's foundation is solid and the central systems (electrical, heating/cooling, plumbing) work the way they should? No matter how well maintained a home appears, it can hide problems that require a trained eye to spot.

A home inspector gives your prospective property a thorough going-over, from roof to foundation, checking the structure and its systems. Chapter 12 shows you what a home inspector does, step by step.

The purchase offer your real estate agents writes up should include a contingency that tells the seller the offer is valid only if you're satisfied with the results of the home inspection. Typically, this contingency gives you 17 days to withdraw your offer or move forward with your purchase: 14 days to conduct a home inspection and 3 days to make your decision. You should interview inspectors and choose the one you want to work with before you make an offer on a house. At busy times of the year or in areas where the real estate market is hot, you may find your preferred home inspector has a waiting list. So find an inspector and call her as soon as your offer is accepted.

Tip: Some sellers have a home inspection done before they put their home on the market. Even in that case, you should still hire a home inspector to look over the property. The couple of hundred dollars you'll spend is worth it to get a second opinion.

As with the other real estate professionals on your team, you should interview home inspectors before you choose one. Ask these questions:

• Are you a full-time home inspector? This isn't a guarantee of competence, but it shows that the inspector is in enough demand to make a living at it and suggests dedication to the job and (perhaps) better availability.

• How long have you been inspecting homes professionally? You want an experienced home inspector, especially one who's familiar with your area and the problems that commonly occur there. Look for one who's been in the business for at least a couple of years.

• Do you have training in home inspections? Many home inspectors have a background in construction, but inspecting homes is a specialized discipline that requires specialized training. It's a good sign if the inspector has taken classes in home inspection.

• Are you a member of any professional associations, and do you have any special certifications? Some of the professional associations for home inspectors are the American Society of Home Inspectors (ASHI), the International Association of Certified Home Inspectors (InterNACHI), and the National Association of Home Inspectors (NAHI). Each of these organizations has standards of practice and a code of ethics that members must follow.

• Do you have up-to-date professional liability insurance? Sometimes called errors and omissions insurance, this policy covers the home inspector in case there's a mistake or oversight in the inspection report. If things go wrong and you end up having to sue the inspector over a faulty report, this insurance means you'll get paid if you win a judgment.

• What does your inspection cover? May I see a sample report? The inspector should assure you that your inspection meets state criteria (if applicable) and complies with the standards of practice and code of ethics of one of the major home inspectors' associations. Look for a report that goes into a lot of detail instead of a quick checklist. 

• How many residential home inspections did you do in this area in the past year? Look for one to two per month at a minimum.

• How long does a typical inspection take? A thorough home inspection takes two to three hours for a single-family home. If the inspector whizzes through it in less time, he may miss problems.

• May I attend the inspection? If you're on site during the inspection, you can ask questions and see potential problems for yourself. If the inspector doesn't want you around, choose someone else.

• How quickly will I get the report after the inspection? Most inspectors deliver a report within 24 hours. And find out how the inspector gets the report to you as well—via email, fax, or in print.

• Can you give me the names and contact information of at least three references? Homeowners know for sure how thorough a home inspection was only after they move in. It's a good idea to talk to previous clients to find out whether the inspector missed something important.

When you get a list of references, check them out. Here are some questions to ask:

• When did you work with the home inspector?
• Did the inspector show up on time and deliver the completed report promptly?
• Did you accompany the inspector? If so, did he explain what he was doing and answer your questions?
• How much time did he spend going over the property?
• Was the home inspection report thorough, easy to understand, and supported with photos and/or documentation?
• Have any problems arisen that the inspector should have pointed out but didn't?
• Would you choose this home inspector again?

Watch out for inspectors who rushed through the inspection or who missed issues that later turned into problems for the buyer.

Should You Rent or Buy?

The following is an excerpt from Buying a Home: The Missing Manual. For more on this subject, see The Eternal Question: Rent or Buy?

Home ownership is a big step, and many people worry whether they're ready to take it. If you currently rent your house, you may wonder if you can even afford to buy a home. Just looking at real estate listings online or in the Sunday paper can make you break out in a cold sweat. Yes, homes are expensive. But they're also an investment—and for many homeowners, it's one of the smartest investments they'll make. Depending on how much you currently pay for rent, how expensive homes are in your area, what your credit score looks like, and how long you plan to live in the house (among other factors), buying a home is often less expensive than renting in the long run. After all, when you rent, you just pay for a roof over your head. When you buy, you become the owner of that roof—and everything beneath it.

Renting does have its advantages. Here are some:

• Renting offers more flexibility. If you like knowing that you can pack up and move at a moment's (or a month's) notice, it may make more sense to rent. Depending on the terms of your lease, you're not tied to a residence for more than a year or two at most. When you own a home, on the other hand, you need to sell the property or find a suitable tenant before you can move—or else you'll end up paying a mortgage on an empty house.

Tip: If you know you're likely to move within three or four years, you're probably better off renting than buying. That's because you won't have time to build up much equity in your house (its cash value as you pay off your mortgage's principal) or break even on your closing costs.

• Maintenance is someone else's headache. When you rent, you call the landlord if a pipe bursts or the furnace quits. He sends someone to fix it—and takes care of the bill. When you own, all the maintenance—from keeping everything in good repair to mowing the lawn and shoveling snow—is your responsibility.
• You can move in faster. Buying a house takes time. If you're in a hurry to move to a new neighborhood, you might want to rent for a year and look for a place to buy during that time. Renters can usually move in soon after getting their rental application approved. Buying a home, on the other hand, takes months. You'll be living in your new house for years, so you want to take your time finding just the right home. Then you may spend a couple of weeks negotiating with the seller before you agree on a price and conditions. And getting financing and preparing for the property transfer can take 30 days or longer.
• Your move-in costs are lower. Renting a house usually involves no more up-front costs than two months' rent and a security deposit. Buying a home is far more expensive. You need a down payment of anywhere from 3.5 to 20 percent—or more—of the home's purchase price and thousands of dollars more for the fees and costs associated with getting a mortgage (Chapter 9 gives you a rundown of what those are).
• You can keep your money in the bank. Being a first-time homeowner frequently means scraping together all the money you can find to afford a down payment and closing costs. Once you buy a house, your money is tied up in your home. After you built up some equity (cash value in the house as you make principal payments), you can tap into it with a home equity line of credit (Section 1.1.2.2). But if you want your money readily available (especially within the next few years), or if you want to invest in something other than real estate, it may make more sense for you to rent.

If you're thinking about buying a home, you're already aware that buying has its own advantages. Here are some major ones:

• Say goodbye to your landlord. It irks some people to pay good money each month and not get anything more in return than the right to live under someone else's roof. When you own your home, each mortgage payment builds up your equity in the house—not much at first, but it increases with time (Section 1.1 explains how that works). Some landlords are great, but others are slow to make repairs—and quick to raise the rent. If you want to feel like your home is your own, you might be ready to buy.
• Take advantage of tax breaks. You can deduct mortgage interest, property taxes, and some closing costs from your federal income taxes. (For the tax savings to make a difference the deductible items must add up to more than the standard deduction—and you'll have to itemize all deductions to claim this tax break.)
• Beat inflation. As the cost of living goes up, the cost of rent goes right up with it. If you use a fixed-rate mortgage (Section 7.3) to buy a home, however, your principal and interest payments stay the same for as long as you live in the home. The longer you stay there, the more pronounced this benefit.
• Build equity. Renting is pay-as-you-go; as long as you pay your rent and abide by the terms of your lease, you can live in your home. But if you buy, as you make mortgage payments and as home values rise, you gain equity in your home. You can treat your home's equity like a savings account, cashing out when you sell the home and using the money for a down payment on your next home. Or you can borrow against it using a home equity line of credit (Section 1.1.2.2).
• Have your own place. For many people, the main reason to buy a home is to have a place that's truly their own. You're not paying off the landlord's mortgage—you're investing in a home with your name on the deed. That's a great feeling, whether you buy a one-bedroom manufactured home or a many-roomed mansion.

What Home Inspectors Don't Do

Buying a Home: The Missing Manual lists what home inspectors won't do as follows:

• A home inspector doesn't have to inspect any system or structural element not readily accessible.
• A home inspector doesn't offer professional services beyond the inspection itself.
• A home inspector doesn't evaluate the strength, adequacy, effectiveness, or efficiency of any system or component.
• A home inspector doesn't conduct specialized inspections.
• A home inspector doesn't estimate the cost of operating any of the property's systems.
• A home inspector doesn't evaluate anything that's not installed.
• A home inspector doesn't evaluate structures that aren't attached to the home.
• If you're having a condominium or a co-op inspected, the home inspector doesn't inspect common areas.

In short, there's a lot a home inspector DOES NOT inspect. In my experience, he'll give you a general inspection of the whole place, but there will be lots of specifics (and some big ones) that he won't cover.

Here's my suggestion to get the most out of your home inspector: follow him around while he inspects. Ask questions and take notes of what needs to be fixed/checked (either by the seller or by you after you buy the place.) My experience is that if you get a good home inspector, he'll tell you several things "off the record" that you can use either to finalize your negotiations/offer or to improve the place once you move in.

The book also lists specialized inspections that general home inspectors usually don't cover (they might find some issues, but you may have to refer to a specialist for some of these) as follows:

• Septic system
• Wood-destroying pests
• Mold
• Asbestos
• Radon
• Renovations (and whether or not you can do them)
• Lead-based paint
• Chimney
• Heating and air conditioning system
• Electrical system
• Plumbing
• Private well
• Roof certification
• Foundation
• Swimming pool or spa
• Trees
• Energy audit

When we put a bid on a home a year or so ago we had to have a specialized inspector look at the private well, swimming pool, and plumbing. We hired the general inspector to do a radon test as well. In general, a home inspector will look at these items and give you a "yes, they work" or "something's wrong" sort of opinion, but you'll need someone with more expertise to come in and tell you what the problem is, how bad it is, and what it will cost to repair/replace the problem.

As far as where to find a good home inspector, I ask friends who have some connection to the building industry who they recommend, then I interview that person. Last time we needed an inspector I asked a builder friend to recommend someone and he turned out to be quite a gem -- he gave me tons of extra information that was quite valuable. Using him was money well spent, especially for someone like me who doesn't know a lot about evaluating the general condition of a house.

Questions to Ask about a Home You Might Buy

Buying a Home: The Missing Manual lists questions you should ask about a home you're thinking of buying:

• How long has this home been on the market?
• Why is the house on the market?
• Are there any problems or disputes with neighbors?
• What repairs or updates have you made recently?
• Are any repairs likely to become necessary within the next couple of years?
• How old is the roof? Are there any leaks?
• If the home has a basement, is it dry or damp?
• When was the heating and/or air conditioning system installed?
• Has the seller prepared a written disclosure statement?
• How much does the seller pay each month in utilities?
• Do you have any pets?

Here's my take on these questions:

• In general, these are great questions, and they all should be asked.

• Some of them are written as if you're asking the seller directly. My experience is that you're usually asking a real estate agent and he/she is asking either the owner or another agent, so many times the answer comes back quite "filtered."

• You can ask all you want, but I'm generally skeptical of the answers. Who's going to say "yes" to "Are any repairs likely to become necessary within the next couple of years?" or even "Are there any leaks (in the roof)?" Probably no one. And even if you buy the place and there are leaks, they can say, "There weren't any when we had the place" so you're really on your own.

• Ask many of these same questions of your home inspector. He'll be more honest.

• A few other things I like to know: What are the taxes on the home? What's included with the sale (appliances, yard equipment/machines, furniture, etc.)? How many people have seen the home in the past 30 days?

• I also take note of things I see that I want to ask for in any offer, but that I'm willing to give back in order to get the price I want. Example: one home we bid on once had a nice swing set that was to go with the owners. We asked for it in our offer, knowing it would be something we could "give" the owners back as we negotiated.

Now's your turn. What other questions do you like to ask when looking at a potential home?

Now's Still the Time to Buy a House

The following is a guest post from Marotta Wealth Management. To note, this piece is a bit centered on a specific area of the country, so the findings/recommendations might not be the same for your area. That said, real estate is still at very low relative prices in much of the country.

Between 2005 and 2009 I annoyed local realtors by claiming that real estate values were headed lower. Then in a column in July 2009, I said it was the time to buy a house. And now in the spring of 2010, it is still the time to buy a house.

Early in 2005 my father George Marotta and I explained the coming subprime debacle and predicted "the bubble, if it is a bubble, could pop as late as 2006 or 2007." Our projection was accurate. Real estate continued to rise that year. But it was relatively flat in 2006, underperforming the markets that appreciated over 15%.

Two years later, I wrote, "Many homeowners with adjustable rate mortgages have seen their monthly payments increase 50%, due to the higher rates. With the sudden jump in monthly mortgage payments, many are finding they can no longer afford to stay in their homes. The rate of late payments and foreclosures has continued to rise, leaving many lenders on the brink of bankruptcy themselves."

Again, the prediction was accurate. In 2007 the Cohen & Steers Realty Majors Index turned negative, losing 18.03%. Residential real estate did even worse. Apartments suffered one of the largest declines, down 25.4%. In February 2008 in my column "For Now, Avoid Real Estate Investment Trusts," I warned again to stay out.

It wasn't until well after the financial implosion that I suggested to readers it was the time to buy a house. I said, "Nathan Rothschild offered the contrarian advice to 'Buy when there's blood in the streets and sell to the sound of trumpets.' It is time to consider buying residential real estate. The bottom is forming, although it may continue to do so through early 2011."

I believe that advice will also prove accurate. Comparing last month's statistics from the Charlottesville Area Association of Realtors, the median home price has dropped from $247,000 last July to $238,000, but the rate of decline has slowed. The average days on the market have risen from 125 to 153. And although the number of active listings is still high at 3,312, the number of houses actually selling has started to pick up.

Home prices are well below 2005 averages, and time on the market is well above the healthy market average of 90 days. Sellers have been slow to realize that their home isn't necessarily worth the appraised value or what they paid for it or even what they owe. Houses are simply worth whatever the market will bear, which is a lot less than it was at the peak of the market three years ago. National trends have followed a similar cycle.

Half the advisors at our firm have purchased real estate in the last year, and I'm personally still looking for investment opportunities. It isn't too late because the recession has been prolonged and the recovery delayed.

Investment real estate isn't for everyone. You shouldn't have more than a third of your net worth bound up in real estate. For many families the home they live in provides them with more than enough real estate exposure.

Also, you don't need to buy and manage individual properties to get an exposure to real estate. Publicly priced and traded real estate investment trusts (REITs) offer an easy way to get in and out of real estate for the average investor. In a favorable climate, up to 8% of your portfolio might be invested in REITs this way.

We got out of REITs entirely and are only looking to get back in recently. My father would always say, "Make half a mistake," which suggests putting perhaps 4% of your portfolio back in REITs now and waiting until early 2011 for the other half.

If you are looking for an easy recommendation for an investment vehicle, try the Vanguard REIT exchange-traded fund (symbol is VNQ). The expense ratio is only 0.15%, and the yield is 7.8%. This is by far the simplest way to take advantage of this trend.

Specific individual real estate holdings offer investors the opportunity to leverage their investments by holding a mortgage on the property. Lending requirements are very tight right now, so for investors who can still get credit, there is real opportunity.

Investors could invest $1 million in appreciating securities, or they could invest $700,000 in appreciating securities and put $300,000 down on a $1 million commercial real estate holding. Assuming normal conditions, the second arrangement will produce a better return. The danger is that you do not want to be highly leveraged in a falling real estate market. Borrowing the money you are investing amplifies the gains, but it also amplifies the losses.

I've heard a number of bleak predictions for the housing market recently. Everyone is expecting real estate to underperform the stock market for many years going forward. Maybe they are right.

With the $8,000 first-time homebuyer tax credit expiring, demand may shrink. Starting your search now may be the perfect time. And there will be another opportunity at the end of the summer when buyers shrink even further. But maybe they are wrong. By this time next year, I expect the markets to turn positive. And I think it is time to make half a mistake and invest a little back into real estate.

It was only a few years ago that everyone was boasting about how real estate was appreciating by 1% every month. They made us feel like fools to be out of the market. With only a handful of listings out there, we were told that even if a glut of houses came on the market it would take years to satisfy the demand. But markets can turn quickly. Now we are contrarians again, looking at the trends and trying to gauge if there will be a second precipitous drop before the bottom. I don't think so. I think that we are near the bottom and brighter days lie ahead.

In the meantime, there's still blood in the street. Don't miss this opportunity to look for a great real estate deal.

Foreclosure Hitting Well-Off Families Too

The More Money blog reports that foreclosures are hitting well-off families too. Consider these statistics on a recent study of foreclosure filings:

20% of the filings went to households with more than $100,000 in annual income.

35% of homeowners who received a foreclosure filing had lived in their homes for more than 10 years. These were not people who'd bought too much house, but more likely people who lost their jobs and suddenly couldn't afford the payments.

The piece also notes that "it was very rare for just one financial setback to lead to the foreclosure. It wasn't just a high-interest-rate, high-payment subprime loan that might have caused a foreclosure; it was a bad loan and then a job loss. Alternatively, it wasn't a job loss that caused an affordable loan to go bad; it was a job loss and a health issue."

I have a few thoughts on this issue:

1. Without a job, almost any financial plan goes south rather quickly. That's why it's important to have a good-sized emergency fund -- to help you try and recover from a job loss as soon as possible. I'm working on a piece centered on "protecting yourself in case of a job loss" that will give additional ideas on how to prepare in advance for a potential firing/lay-off. I hope to have it done sometime soon.

2. I can see how a one-two punch like job loss/health problem can be very tough. And it's not too difficult to imagine them coming together. For instance, assume you have a working couple, one of them gets sick, loses his job, and now the family gets hit with both a loss of income as well as mounting medical expenses. Tough to recover from this unless your finances are rock solid.

3. The above scenarios are arguments for being debt free. Someone who's been in their home for 10 years should have it paid off (or close to it) IMO -- assuming they used the right formula to buy their house in the first place.  It's not that difficult to pay off your mortgage in a decade if you apply some basic principles.

4. Don't take a bad loan. I know this kind of goes without saying, but it's noted above as one of the two factors needed to derail a homeowner. Why start out with one strike against you, knowing that you only need one more (a job loss, health problem, etc.) to sink the ship?

5. Some of these people (probably a good percentage) had to be in trouble because they bought too much house. So let me reiterate how important it is to buy a house you can afford. Stretching to meet a mortgage is placing your finances at great risk as one major setback can cause the whole house of (financial) cards to come down.

Do You Escrow?

The following is a guest post from Budgeting in the Fun Stuff. 

As many of you know, when you buy a home, you get a choice to escrow your property taxes and insurance payments or not.  What a surprising amount of people don’t know is what does that mean?

If you choose to escrow, the mortgage company will establish an escrow account for you with a neutral third party to pay property taxes and insurance for your home.  Your mortgage payments will be adjusted to include this estimated amount and readjusted as scheduled if the property taxes or insurance charges fluctuate.  They may also be adjusted for incorrect estimations.  Also, if you escrow, keep an eye out for an escrow fee in your closing costs.  According to this site, that fee could range from $500-$1500.

If you don't choose to escrow, you will be in charge of paying your own property taxes and insurance bills.  Your mortgage payments will stay the same since they will not need to be adjusted for these amounts.  Keep in mind, some banks will charge a fee to waive escrow as well.  According to our closing paperwork we paid $250.  Now that I know what that means, I would have argued to have that removed.  Ah, to live and learn.

My husband and I chose not to escrow for three main reasons:

1.  We wanted consistent mortgage payments.
2.  We wanted to make interest off of our money.  At the time, ING was paying more than 4%.
3.  I didn't want to rely on an escrow company to pay my bills.  I’ll admit it, I'm a control freak.

Looking back, I'm very happy with our decision.  Our mortgage payments have been exactly the same as planned, we make 2.15% at Smarty Pig on our property tax and insurance money, and we've never been late on any of those bills.  We also receive our annual property assessment by April, so I'm never surprised by our November and December property taxes and can easily budget in more than enough.

Do you escrow?  If so, how has it worked out for you?  Did I miss anything important?

Overtaxed Homeowners Fighting Back

Here's a piece from MSNBC that talks about people appealing their real estate taxes because they are too high compared to current home valuations. The details:

Now that the housing bubble has burst, up to 60 percent of the nation's taxable property may be overassessed, meaning owners are paying thousands of dollars more in taxes than they need to, experts say.

That is leading to a flood of appeals in many markets from homeowners eager to cut their taxes and speed the process of aligning tax valuations with reality.

While home prices have fallen by 30 percent on average since their 2007 peak, according to the Case-Shiller Home Price Index, many counties only reassess every three to five years and have little incentive to move faster considering how important property taxes are to funding local government operations.

So homeowners are increasingly appealing the valuations, although the number is still a tiny fraction of the total — 2 to 4 percent, according to the National Taxpayers Union.

“People forget they need to appeal,” said Barbara Payne, executive director of the Fulton County Taxpayers Foundation in Georgia. “Everyone should have appealed more than once in the last five years or you’re paying too much.”

Those who appeal are getting mixed results. Only 20 to 40 percent of those who challenge their assessment walk away with a victory, the NTU said.

You may remember last year when I tried to get my assessment lowered. I did get it reduced, but not by much. This year when I got my assessment notice it was much more realistic -- down 14.2% -- and at a level I feel is a true reflection of the value of our home. Now I just have to see what this does to the actual amount of taxes we pay.

One big downside to this: since the township is reflecting actual values for homes, I assume tax revenues are down big-time. As such, they're now asking voters to approve an additional millage to pay for needed police and fire workers. I guess if they can't get it one way, they'll get it another. But if my taxes aren't going to pay for the proper level of police and fire protection, what are they going towards?

Any of you seen changes in your real estate assessments?

The Eternal Question: Rent or Buy?

The following is an excerpt from Your Money: The Missing Manual , an excellent book written by JD Roth from Get Rich Slowly. Copyright 2010 O'Reilly Media, Inc. All rights reserved. Used with permission.

Deciding whether to rent or buy is a complicated financial and emotional decision. Real-estate agents like to say, "Renting is like throwing your money away." On its surface, this advice seems to make sense, so it gets repeated a lot in popular culture. But in a 2008 issue of Newsweek, Robert Shiller, a professor of economics at Yale University, wrote, "The popular argument that renting is equivalent to throwing money down the drain is really fallacious."

In some cases, it does make financial sense to buy a home. But in other situations, renting is the better choice. And often, there's not a lot of difference between the two, especially if you're smart and keep costs low. The decision usually comes down to personal preference. Let's take a brief look at the pros and cons of each.

Here are the advantages of owning your home:

• Stability. When you take out a mortgage, you know what your payments will be for years to come. There's no landlord to change the rules, and you don't need to worry about being kicked out at a moment's notice.

• Equity. As you make your mortgage payments, and as the property's value increases, you build equity, which is the difference between what you owe on your house and what you could sell it for. In other words, it's how much value you have stored in your home. For example, if your house is worth $225,000 and you owe $175,000, you've got $50,000 in equity.

• Freedom. You can do what you want with your home and yard, like plant a garden, paint the ceiling purple, or install a wet bar in the basement.

On the other hand, the advantages of renting include:

• Flexibility. With a rental, you don't have a long-term commitment. You can move on short notice, whether to get away from bad neighbors or to take advantage of lower rents elsewhere. There's also a wider range of rental options than homes for sale. It's difficult to buy a tiny house, for example, but you can easily find one- or two-room rentals.

• Lower costs. In the June 2007 issue of Kiplinger's Personal Finance, editor Knight Kiplinger wrote, "It often costs less to rent. The annual cost of owning a property, be it a house or a condo, is usually greater than the cost of renting, after taxes." True, you don't build equity when you rent, but you're not burdened with taxes, insurance, and maintenance costs either. You can use the money you save to travel or buy stocks.

• Lack of responsibility. When you rent, somebody else does the yard work and repairs the leaky showerhead. (Of course, this can be a disadvantage if your landlord is slow to respond to problems.) All you do is stick to the terms of your lease or rental agreement and someone else takes care of the rest.

Both sides of the rent vs. buy argument can trot out numbers and statistics to prove why they're right and the other side is wrong. The bottom line is that the decision isn't just a financial one, so it's hard to generalize. Yes, renting can save you money and it comes with far fewer hassles than owning. But owning your home can give you non-financial benefits.

The best way to decide is to think about your goals and figure out what makes sense for you. Ask yourself these questions:

• How long will you stay in one place? The longer you plan to stay put, the more sense it makes to buy a home. Buying lets you recover your costs and build equity.

• How do costs compare? Find a good rent-vs.-buy calculator and crunch the numbers. The New York Times has a nifty web-based calculator that can help you compare costs for renting vs. owning. The site lets you plug in numbers for your situation, and then shows you how long it would take to break even with buying.

• How would you spend the savings? When renting is cheaper, you can use the money you save to pursue other goals. Sure, you could spend the cash on purses and videogames, but you'll be better off in the long run if you use it to fund your retirement (see Chapter 13), budget for a new car—or even save for a down payment on a house.

• How do you feel about homeownership? For some, owning a home is a piece of the American Dream. For others, the chores and maintenance are a nightmare. Your feelings about homeownership are just as important as the financial stuff.

Note: Here's an excellent article from the New York Times that explains why the author—a long-time renter—decided to buy a home. It does a good job of laying out the pros and cons of each choice.

If you decide to buy, do it for the right reasons: because it fits your goals and will make you happy. Don't do it because you think it's a good investment. A mortgage is not a retirement plan—it won't make you rich. Instead, think of it as an investment in a certain lifestyle. If homeownership is a lifestyle you want and can afford, then buy; if not, rent.

How Much House Can You Afford?

The following is an excerpt from Your Money: The Missing Manual, an excellent book written by JD Roth from Get Rich Slowly. Copyright 2010 O'Reilly Media, Inc. All rights reserved. Used with permission. (A sidebar is at the end in red.)

Housing is the largest expense in most families' budgets. But how much is too much to spend on shelter?

Economists have used decades of financial stats to create computer models that predict how much people can afford to spend on housing and debt. Traditionally, lenders have used what's called a debt-to-income ratio (or DTI ratio)—a measure of how much of your income goes toward debt every month—to estimate how much people can afford to borrow to pay for a home. To find this ratio, divide your monthly debt payments by your gross (pre-tax) income. For example, if you pay $300 toward debt every month on a $3,000 income, your DTI ratio is 10%. (The lower the number, the better.)

Banks and mortgage brokers look at two numbers when deciding how much to loan you:

• Front-end DTI ratios (sometimes called housing expense ratios), which include your total housing expenses: mortgage principal, interest, taxes, and insurance. These four factors are often called PITI. (Yes, the mortgage industry is filled with acronyms and abbreviations.)

• Back-end DTI ratios (also known as total expense ratios), which include all of the above plus other debt payments like auto loans, student loans, and credit cards.

When you apply for a mortgage, a computer checks to be sure the amount of debt you want to take on falls within accepted ranges. This process is called automated underwriting. When the computer is finished, the loan application moves to manual underwriting, where an actual person uses industry-standard DTI ratios to decide whether to approve or deny the loan.

Note: The key thing to understand about DTI ratios is that they're used to estimate the lender's risk, not yours. That is, your mortgage company uses them to check whether they think you can make the payments—not whether you can comfortably make the payments. So if you want to be able to dine out and take vacations and pursue other financial goals, the DTI ratio you use in your calculations should be lower than the one your lender uses.

During the 1970s (before credit-card debt became common), DTI wasn't split between front-end and back-end. There was only one ratio, and it was 25%. If your mortgage, taxes, and insurance costs were less than 25% of your income, people assumed you could afford the payment. (This is still an excellent rule of thumb.)

Debt-to-income guidelines have relaxed over the years. When my wife and I bought our first home in 1994, our mortgage broker told us our front-end DTI ratio had to be 28% or less, meaning we couldn't pay any more than 28% of our gross income toward housing. The back-end DTI ratio was capped at 36%, which meant that our housing expenses and other debt payments combined couldn't be more than 36% of our income.

When we bought our new home in 2004, the accepted DTI ratios had grown by 5%. "That 28% figure is old," we were told. "Most people can go as high as 33%." The back-end ratio had been raised to 38%–41% in some cases. (During the housing bubble, some lenders went still higher, even above 50%!)

A 5% increase may not seem like a big deal, but when you're talking about a house payment, it's huge. If you're earning $60,000 per year, 5% is $3,000, or $250 a month. Many people have lost their homes because they took on mortgage payments that were just $250 more than they could afford each month.

Generally, banks are happy to lend you as much money as you want. (Within reason, of course, and if your credit is good.) The recent credit crisis has certainly made lenders more cautious, but they're still not going to stop you from digging a hole for yourself if that's what you want to do. In The Automatic Millionaire Homeowner (Broadway, 2008), David Bach writes:

You should generally assume that the amount the bank or mortgage company is willing to loan you is more than you should borrow. […] Don't fool around with this. Do the math. Be realistic about your situation. Don't pretend you're in better shape than you are.

Remember, nobody cares more about you than you. Your real-estate agent, mortgage broker, and bank all have a vested interest in encouraging you to buy as much house as possible—their incomes depend on it. Listen to what they have to say, but make your decisions based on what's best for you.

Homebuyers are often told to "buy as much house as you can afford." But the problem with following this advice is that you're left without a buffer. What if you lose your job? Or what if you're forced to sell your home, but housing prices have dropped? (Many Americans are facing this problem in the aftermath of the housing bubble.) Instead of buying as much house as you can afford, it makes more sense to buy as much house as you need, keeping conventional DTI ratios as ceilings. (The box on Section 10.2.2 tells the story of a couple who bought more house than they ended up needing.)

Ultimately, it doesn't matter what the guidelines are. It all comes down to what you're comfortable paying. Just because conventional wisdom says you can afford a $1,650 housing payment on your $60,000 annual income doesn't mean you should do it.

Give yourself a margin for error. Instead of basing your home-buying budget on a 33% front-end DTI ratio, consider dropping that to 28% or, better yet, 25%. Another way to create a buffer is to base your estimates on your net (take-home) pay instead of your gross pay. You won't be able to afford as big of a mortgage, but you won't feel pinched by the payments, either.

Your Money And Your Life: Movin' on Down

When they got married, Sierra Black and her husband Martin bought a home near Boston, Massachusetts. "We found an old Victorian with gables and staircases and a finished attic." The 2,200 square-foot house was beautiful, and they loved it—but it was a nightmare to maintain that much space. "Buying that house meant buying a piece of the American Dream—but we both figured out pretty quickly that it wasn't our dream."

There was the $2,200 monthly mortgage payment and the $600 monthly cost of their combined commutes (which totaled 160 miles every day). Sierra tried to boost their cash flow by making the sorts of frugal choices described in Chapter 5, but she says, "It felt like I was bailing out a leaky boat with a teaspoon."

After 2 years of struggling to make ends meet, Sierra and Martin moved to a 1,500-square-foot colonial-style duplex closer to his office. "The new house feels small but not cramped," says Sierra. "We gave up a lot of square footage, but we didn't lose any functionality. It turns out we didn't need all that space."

They now pay about $1,600 each month for their mortgage. But that's not the only savings: "All of our utility bills are lower than they were," says Sierra, "and our commuting costs are nonexistent." Martin used to drive 40 miles to work every day; now it's a four-block walk. And Sierra does a lot of her errands on foot. "The great thing about this is that it's saved a ton of money and a ton of time."

As Sierra and Martin have learned, it's not material things that bring happiness, but finding ways to align your spending with your values (see Chapter 2): "Every single day that goes by since we moved, we tell each other this is the best decision we ever made. This improved our quality of life so much."