All posts in Mortgages

Portrait of house for rent

Single family homes offer the investor an opportunity to borrow large loan-to-value loans at fixed interest rates for long terms.  Lenders will loan 75-80% of the purchase price at 5.5% to 6.5% interest rate for thirty years.  Compare that with other popular investment alternatives like precious metals, commodities, stocks, and mutual funds and it will be hard to find financing available at all. 

There may be some short term, one-year, loans at a floating rate tied to prime plus with no guarantee that it will be renewed.  Some of those loans require you to have a 50% margin of equity and if the value goes down, you’ll have to put up additional cash or be forced to sell.

The advantage of having long-term mortgages is that an investor could find the optimal time to sell the property instead of needing to sell it because the term is due, and no other financing is available.   Supply and demand cause the real estate market to be higher and lower and a long-term mortgage provides options to sell when the price is optimal.

Single family homes enjoy distinct tax advantages.  If the rental or investment property is held for more than 12 months, the gain is taxed at lower, long-term capital gains rates rather than ordinary income rates.

Another advantage of rental homes is that the improvements can be depreciated over a 27.5-year life.  This is a non-cash deduction that reduces income and shelters income.  The accumulated depreciation taken over the life of the property is recaptured when the property is sold.

Since rental homes provide income that other investments may not, tax would have to be recognized on the annual income.  IRS allows normal operating expenses like interest, property taxes, insurance, repairs, and management to be deducted including the annual depreciation.

Rental and investment property are eligible for tax-deferred exchanges to avoid paying tax at the time of disposition.  Real estate also enjoys stepped-up basis which means that when an heir inherits a property, instead of having a potential gain from the value the decedent had purchased it for less depreciation taken, the heir’s basis becomes the fair market value at time of death.  All potential gain may be permanently avoided.

Appreciation is a much-anticipated benefit of real estate because value tends to go up over time.

Another big benefit is the control that an investor has with rentals that is not available with other investments like stocks, bonds, or commercial real estate.  It takes a relatively small amount of cash to control the entire investment in a home that wouldn’t be available in other investments without partners or publicly traded companies.

Single family homes are an investment that homeowners understand because they are essentially the same as the home they live in.  They’re used for rental purposes but the maintenance is the same, the service providers are the same, and the neighborhood are the same.  Most homeowners understand rentals far better than alternative investments.

Contact me at (320) 762-7106 if you’d like to know more about rental property.

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For a short time after the housing crisis a decade ago, some homeowners thought the value of home is a place to live rather than an investment.  A home certainly has an appeal as a place to call your own, raise your family, share with your friends and feel safe and secure.  It can be more than an address; it can also be one of the largest investments homeowners have.

Most mortgages apply a portion of the payment toward the principal amount owed in order to pay off the loan by the end of the term.  This acts like a forced savings for the homeowner because as the loan is reduced, the equity grows which increases their net worth.

The other contributor to equity is appreciation.  Most homeowners don’t realize the increase in value until they sell the home or do a cash-out refinance, but the increase is real and part of their equity.  If the expected appreciation is averaged over the anticipated time for the home to be owned, the value of the equity increase can be proportioned annually or monthly.

Combining appreciation and principal reduction with leverage, it’s possible to build a case that a home is definitely an investment.  Leverage is the ability to control a larger asset with a smaller amount of cash using borrowed funds.  It has been described as using other people’s money to increase your yield and it applies to homeowners and investors alike.

The table on the picture above shows that even a modest amount of appreciation combined with the amortization of a loan can cause a substantial rate of return on the down payment and closing costs.

This example assumes a 3% acquisition costs on the home with a 4.5% mortgage rate and the resulting equity at the end of five years.  The larger down payments lower the yield because it decreases the amount of borrowed funds.

If a borrower buys a home that appreciates at 2% a year with a 3.5% down payment on a FHA loan for 30 years, the down payment and acquisition cost factored by the equity will produce a 28% return on investment each year during the five year period.

A home can be many things including an investment.  You can use this Rent vs. Own calculator to see the effect that appreciation and principal reduction can have on a home purchase in your price range.  If you have any questions, I’m a phone call away at (320) 762-7106.

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The Tax Cuts and Jobs Act of 2017 increased the standard deduction to $24,000 for married couples.  There will be some instances that homeowners may be better off taking the standard deduction than itemizing their deductions.  In the past, homeowners would most likely be better off itemizing but the $10,000 limit of state and local taxes (SALT) adds one more issue to consider.

Let’s look at a hypothetical homeowner to see how a strategy that has been around for years could benefit them now even though they haven’t used it in the past.  The strategy is called bunching; by timing the payments in a tax year so that they can be combined to make a larger deduction.

Let’s say that the married couple filing jointly has a $285,000 mortgage at 5% for 30 years that has about $14,000 in interest being paid.  The property taxes are $6,000 and they have $4,000 a year in charitable contributions for a total of $24,000 of allowable itemized deductions on Schedule A.

Standard Itemized.jpg

Since that deduction amount is the same as the Standard Deduction, there is no monetary advantage one way or the other.  However, if the taxpayers were to pay their interest because they must make timely house payments but only pay $2,000 of the 2018 property taxes in December of 2018 and the balance of the $4,000 in January, they transfer part of the deduction into 2019.

Additionally, if they make their intended charitable contribution for 2018 in January of 2019, it makes that deductible on the 2019 return.

Since the total deductible amounts paid out in 2018 was $16,000, the taxpayers would have an $8,000 benefit that year from taking the Standard Deduction. 

Assuming they made the same $4,000 charitable contribution in 2019 during the year and paid the house payment and property taxes on time, their total deductions for 2019 would be $32,000 which is $8,000 more than the Standard Deduction.

In this example, the taxpayers in 2018 and 2019, would benefit a total of $16,000 in tax deductions by bunching and electing to take the standard deduction one year and itemizing the next. 

This is only an example but if your situation is similar, it might benefit you to consider an alternative when to take the standard deduction and when to itemize.  This is a conversation you need to have with your tax professional to see if it would work for you.

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Conventional, VA and FHA have increased mortgage limits for loans in 2019.

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Smart home technology promises to make your home more comfortable, convenient and secure.  It may not be the home from the Jetson’s but artificial intelligence is the hope to make it the home of the future which is available now and controlled from anywhere you have an Internet connection.

When Alexa appeared at Christmas-time two years ago, most people thought it was a novelty to ask what the weather will be or to play a song.  Few people understood the vision of Amazon would be verbally purchasing everything imaginable and that your calendar, contacts, lights, and appliances would all be connected.

There are plenty of players in the market including Amazon Alexa, Google Assistant, Samsung Smart Things, Apple and others.  It starts with a hub that acts like a brain for your system to connect the different home automation devices.  You’ll establish an online account with the hub manufacturer so that you can adjust settings and controls.

You could start simple with switch and plug receptacles that would allow you to control lights either vocally through your hub or from your Smartphone or tablet anywhere in the world where you have an Internet connection.

Programmable thermostats can lower your monthly utility costs while conveniently regulating your comfort by adjusting temperatures on your heating and cooling systems.  These can be particularly effective in homes with zoned systems where you might live in one area during the day but sleep in a different zone.

Door bells might be one of the next additions to your automation.  Not only can you communicate with the person at your door, you don’t have to go to the door to do it.  The device cameras are motion activated so you’ll see who is there regardless of whether they rang the doorbell or not.

Door locks can be convenient because instead of giving someone a key, you can issue a temporary code to let them enter.  You can give them permanent access and rescind it any time you want without having to change the locks.  You’ll know when they enter and leave your home.

Other security options can include door and window sensors, motion detectors and cameras for outside or inside the home.  The homeowner will be able to monitor from inside or anywhere else they have an Internet connection.

Smoke and carbon monoxide detectors, as well as water sensors to determine leaking water around water heaters or in basements give homeowners peace of mind.

Most of these devices are available in wireless models so you won’t have to string wire throughout the home.  The Wi-Fi can introduce a potential problem of hackers who could illegally access your system.  This is true with any home that has a Wi-Fi router and precautions should be taken.

The big box stores like Lowes, Home Depot, and Amazon offer a wide variety of brands and modules.  Many people prefer it as a do-it-yourself project and others would rather have a professional do it for them.  YouTube has a lot of videos that can probably show you exactly how to install the ones you select.

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Order your free copy of your credit reports and look for errors; use a trusted mortgage professional; get pre-approved; use a trusted real estate professional.

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The Federal Reserve Board’s Triennial Survey of Consumer Finances recently revealed the net worth of a homeowner was $231,400 compared to $5,200 for a renter.  The net worth of homeowners increased 15% from 2013 to 2016 while renters’ decreased by 5%.

Appreciation and principal reduction are the two dynamics that affect a homeowner’s equity.  Each payment is applied to the interest for the previous month and the principal reduction to retire the mortgage.

A $300,000 home purchased with a $294,566 FHA mortgage at 5% for 30 years has an average monthly principal reduction $362 in the first year. Two percent appreciation would benefit the buyer by $500 a month.  In this example, the equity grows by $860 a month for the homeowner.  A tenant would have to invest $660 a month over and above the rent they’re paying.

Based on the assumptions listed above, the $10,500 down payment would become approximately $85,000 of equity in seven years. Leverage and forced savings contribute to the difference in addition to the appreciation and principal reduction.

The rent paid by tenants help the landlord recoup their investment in the home and a return on their investment.  Some people say, regardless if a person rents or buys, they pay for the house they occupy.  The choice is whether to buy it for themselves or their landlord.

Check out some of the benefits using your own numbers with this fill-in-the blank Rent vs. Own.

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Pre-appproval confidence

There are so many benefits to getting pre-approved, it rarely makes sense to not do it.

 

 

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There is a little-known mortgage program that could provide the vehicle for the right person to get into a home. If a person sells their home to another for less than the fair market value, the difference in the appraised value and the sales price is considered a gift of equity for the buyer.
FHA requires that borrowers receive gifts of equity only from family members transferring title to the borrower.

An appraisal is required to determine the value of the home. The sales price is subtracted from the appraised value to determine the equity to be gifted. If a home appraises for $300,000 when the owner will sell it for $250,000, the gift is $50,000.

The gift is applied to the down payment. In this example, the borrower would have to qualify for a $250,000 mortgage which would require private mortgage insurance because a 20% down payment on a $300,000 home would be $60,000. If the buyer had an additional $10,000 in cash to put down, the PMI would not be required, and the monthly payments would be lower.

The seller would need to provide a gift letter stating the amount of the gift, the date the gift, and that no repayment is expected or required. It also needs to have the donor’s name, address, phone, email and relationship to the buyer. In addition, the settlement statement will need to show the gift being credited from the seller to the buyer. The lender may require additional documentation.

Beginning in 2018, the annual gift tax exemption is increased to $15,000 per person per year and lifetime exemption to $5.6 million. The fact that the $50,000 exceeds the individual amount doesn’t mean there will necessarily be any gift tax due now. The seller should consult their tax professional.

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It may be natural for first-time buyers to be unsure of the process of buying a home because they haven’t been through it before but even repeat buyers need to know changes that have taken place since the financial housing crisis.

The steps in the home buying process are predictable and generally follow the same pattern.  It certainly makes the move stay on schedule when you know all the different things that must be done to get to the closing.

  • In the initial interview with your real estate professional, you share the things you want and need in a home, discuss available financing and learn how your agent can represent you in the transaction.
  • The pre-approval step is essential for anyone using a mortgage to purchase a home to assure that they’re looking at the right price of homes and so they’ll know what they can qualify for and what the interest will be.
  • Even with lower than normal inventory, it is difficult to stay up-to-date with the homes currently for sale and the new one just coming on the market.  Technology has simplified this process, but the buyer needs to implement them.
  • Showings can be accommodated online through virtual tours, drive-bys and finally, a personal tour through the home.  Your real estate professional can work with you to see all the homes in the market through REALTORS®, builders or for sale by owners.
  • When a home has been identified, an offer is written and negotiation over price, condition and terms takes place.
  • A contract is a fully negotiated, written agreement.
  • Escrow is opened to deposit the earnest money from the buyer as a sign they’re acting in good faith.  The title search is also started so that clear title can be conveyed from the seller to the buyer and that the lender will have a valid lien on the property.
  • 88% of home sales involve a mortgage.  The lender will require an appraisal to be sure that the home can serve as partial collateral for the loan.  If the buyer has been pre-approved, the verifications will be updated to be certain that they’re still valid.  The entire loan package when completed, is sent to underwriting for final approval.
  • When the contract is completed, at the same time the title search and mortgage approval is being worked on, the buyer will arrange for any inspections that were called for in the contract.
  • After all contingencies have been completed, the transaction goes to settlement where all of the necessary papers are signed, and the balance of the buyer’s money is paid.  This is where title transfers from the seller to the buyer.
  • Possession occurs according to the sales contract.

One of the responsibilities of your real estate professional is to make sure that things are done in a timely manner so that the transaction will close according to the agreement on time and without unforeseen or unnecessary problems.

Even if you’re not ready to buy or start looking yet, you need to be assembling your team of professionals.  Let us know and we’ll send you our recommendations, so you can read about them on their websites.

If you have any questions, call us at (320) 762-7106; we’re happy to help.  Informed buyers lead to satisfied homeowners and that is better for everyone involved.

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