Determining the down Payment on a House

You’ve been renting for 10 years; you originally put down a months rent, plus a deposit equal to one months rent, to get into the apartment or house that you are renting. Or perhaps you put down the first and last months rent, plus a deposit equal to the monthly rent, as you were more of a flight risk because of your credit history, or more specifically, your renting history as you had to leave an apartment and break the lease. Perhaps the job market wasn’t the best where you were living, or the market does not suit the skills that you have, as was the case when I moved here from elsewhere in the state. Perhaps you just needed a change of atmosphere or wanted to live in a larger metropolitan area; whatever your reasons you have a bit saved up and think that it is time that you take on that big decision of moving into your first home.

Yet the stakes are higher and the consequences graver if you do not approach home buying in the right way. Typically with a rental property, your landlord may charge you between 30% over the price that the property costs him to whatever the market forces will allow. Say your rent is $1,500; the landlord may have his own mortgage of $700 – $1,100 to a bank or real estate corporation, his “profit” of $400 – $800 a month seems nice, until you realize that he may or may not be footing some of the utilities in the unit, and that he has to pay property taxes. It seems practical that if you owned it yourself you would be paying that $700 – $1,100 to yourself in the way of your equity in the unit, but can you really afford the costs associated with owning that property?

Renters do not have to fully realize the costs associated with maintaining a unit, property taxes, and other hidden costs that come with a house, townhouse or condominium. Someone who is used to paying $4,500 to put down on what is realistically a $252,000 property is often ignorant to having to put down the $50,400 on a property towards ownership, which is what the landlord probably did. Most renters do not have that much money put aside. So the first rule of thumb is that one should put down 20% of the price towards a house as a down payment. What if your landlord isn’t making a “killing” on his unit and is actually charging you a fair amount in rent; the $252,000 unit is now more like $396,000, and you would have had to put down $79,200 as a down payment using the 20% rule.

Most of us do not have the 20% and couldn’t borrow it if our lives depend on it; these days you are hard pressed to find a house less than $200,000 anywhere, so the average renter has to face the reality of putting down at least $40,000 on a house. Quite honestly, given the hidden costs of a house a renter would have to put down half on the property to own anyway; a $252,000 house at 30 years at a 7 percent rate leaves one with a payment of $1,676.56, slightly more than the $1,500 the renter is paying at the moment. So in order to get the payment to equal less than what they are currently paying they would want to put down at least $52,000, or 21%, to get a payment of $1,330.60 after the interest. Do not make the mistake of seeing a $252,000 property and figuring that you are only going to pay $700 for 30 years; keep in mind the interest and the other costs associated with the loan. Banks have to make some money as well, so while you may have afforded to pay $1,500 a month for rent on your place, putting $4,500 down, you would have to put around $50,000 down to pay a similar amount for the house you want. In fact, if renters keep that rule of thumb in mind, that they will have to pay at least 10 times as much down as they did to rent to give them some allowance for a reasonable interest rate, they should know what to expect.

These days renters are finding interest only loans in which they defer the principal almost indefinitely, similar to what some people do when they take out payday loans. Speaking of which, just as payday loan borrowers are finding, once some of the principal is being paid, or that interest rises, they may not be able to even afford the interest on their home and are facing foreclosure. A good mortgage calculator will really show you what you can truly afford; for example say I make $1,456.68, which I do if I work overtime. If I don’t put any money down on a property and go for 30 years at 7% with my $400 car payment I can afford $320 a month as I have $1,000 left to make a payment with, factoring in the 1/3 federal rule for housing, which doesn’t even buy a bathroom in a studio where I live. But I need at least a $200,000 place I am hard pressed to find anything cheaper than that here; so I could put down the majority of the amount towards the payment but does that take into account some of the hidden costs?

Keep this in mind, Chesapeake, VA real estate taxes are $1.06 in mosquito controlled areas per $100 of value, in other words, the $252,000 property has yearly taxes of $2,650 a year, which I should factor into my payment, or another $220 a month. So by that logic, the $320 a month raises to $540 a month, and the $1,330 I would have paid per month is now $1,550; even more I should put down to offset my costs. So realistically the $252,000 property has over $79,500 in property taxes, so it is really costing me $331,500.

Keep in mind these simple facts when considering on how much to put towards a down payment

Property taxes can add 16% or more onto the cost of your mortgage
Interest can add over 50% or more onto the cost of your mortgage
A renter needs to put down 10 times his deposit in the form of a down payment
You can only afford half to a third of what you have now, without a 20% down payment or more

Most renters may have to employ an aggressive plan to even save that amount, and do not allow yourself to get caught up in zero interest, zero down deals in which you pay the principal and never truly own the home; this is what you were doing renting so why do it again …