CENTRAL CREDIT UNION FINANCIAL PLANNING INSTITUTE. Guide To. Buying A Home

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1 CENTRAL CREDIT UNION FINANCIAL PLANNING INSTITUTE Guide To Buying A Home

2 CENTRAL CREDIT UNION FINANCIAL PLANNING INSTITUTE Guide To Buying A Home As an attorney who practices real estate law, I have worked with hundreds of individuals facing the awesome process of buying a new home. I know first hand the potential frustrations and aggravations, as well as the stress that people face when going through this process, particularly for the first time. In my experience, the best way to circumvent problems and pitfalls is to enter the process as an educated and informed consumer. In order to assist in the home-buying process, I have worked with the professionals at the Central Credit Union of Illinois Financial Planning Institute to prepare this booklet. I think you'll find Guide To Buying A Home to be an ideal reference for each step in the home-buying process. I hope Guide To Buying A Home helps ease the worry of what is, for most, the biggest financial decision of a lifetime, and paves the way for a long and happy life in your new home. JONATHAN P. SHERRY BOARD OF DIRECTORS CENTRAL CREDIT UNION OF ILLINOIS FINANCIAL PLANNING INSTITUTE 1

3 Making The Dream A Reality Buying a home is something most of us grow up dreaming about. But buying a home is a complicated process. From making the decision to buy and saving money for a down payment to choosing the right home and closing the deal, it can be a very frustrating and costly experience. Yet the entire home-buying process is simplified when placed in proper perspective. Buying a home will probably be one of the largest investments you ever make, and you can make smart choices if you take the time to make decisions that are consistent with the other financial decisions you make in life. Ask yourself: "What is most important to me?" The answer to that question alone will help you determine if and when to buy, what to buy and where to buy it. Remember, buying a home needs to be placed in the context of your overall financial values because it is more than a purchase, it s a lifestyle choice one you must live with and in. To Buy Or Not To Buy? Home ownership isn t right for everyone. Consider the following advantages and disadvantages of home ownership. The Advantages Of Home Ownership There are obviously many advantages to purchasing your own home. Some of the factors that may help you decide whether buying is right for you include: Increasing Your Net Worth. Purchasing a home is a long-term investment that will increase your net worth. One of the benefits of purchasing a home is the high cash return a real estate investment can provide. One reason for this high return is that real estate is commonly financed and is thus a leveraged investment. With a leveraged investment, you are using someone else s money to work for you. For example, if you purchase a home for $150,000 with a $30,000 down payment and property values 2

4 increase 10%, your home value will increase $15,000. This $15,000 gain is made with a cash investment of only $30,000. Furthermore, money invested in house payments and money earned from appreciation combine to create equity. Simply defined, equity is the difference between what you owe on your home and your home s current market value. As you build equity, you increase your net worth. The equity in your home can be a powerful tool in helping you achieve your financial objectives. THE POWER OF EQUITY If you ever need a ready source of cash, your home s equity may be where to find it. With a home equity loan or line of credit, you can borrow against the equity in your home for home improvements, debt consolidation or just about anything else. Best of all, the interest on most home equity loans is 100% tax deductible. Consult your tax advisor for details. Central Credit Union offers both fixed-rate home equity loans and variable-rate lines of credit. With either option, you can borrow a percentage of your home s current market value less your first mortgage balance. For more information, including current rates, please call (708) or visit Central Credit Union s web site at Reducing Your Tax Bill. Home ownership can also provide tax advantages. The interest paid on mortgages up to $1,000,000 is tax deductible as are the costs for many of your loan processing fees. Home improvements that increase the value of your home also receive special tax treatment when you sell your home. Furthermore, real estate taxes are fully deductible on your federal income tax return and may be partially deductible on your state return. For answers to questions regarding the tax benefits of purchasing a home, you should consult your tax advisor. Other Benefits. Home ownership provides freedom, security and stability. Furthermore, once you outgrow a home and purchase another, you can always retain the original property as a rental. Although rental properties will cost you in terms of upkeep and insurance expenses, they can provide tax benefits and a source of income. Finally, a good record of timely mortgage payments will reflect positively on your credit history, which can contribute to your ability to obtain credit for future purchases. 3

5 The Disadvantages Of Home Ownership There are some potential drawbacks to home ownership, and you should understand their implications before you leap into the home-buying process. Roots Are Binding. Once you invest a large amount in a home, you are inherently less mobile. So before you make the choice to buy, you need to ask yourself how committed you are to staying in one place for a given length of time. Possible Financial Loss. Purchasing a home is an investment, which is not without risk. Factors that can make or break your investment include when you buy, what you buy, how much you pay and how long you plan to stay. And while purchasing a home is an investment, it may not be the best investment for you. If you re not looking to plant roots, you may find that you are better served financially by building your net worth through investments other than real estate. Time And Money Factors. While home ownership gives you the freedom to do as you please with your home, all repairs and maintenance that need to be done must be done by you and are your financial responsibility. Can You Afford It? Once you have decided that home ownership is right for you, you ll want to determine if you can afford it. Key factors to consider are your current assets, monthly expenses, salary and future earning potential as well as the money you ll save through the tax benefits you ll receive as a homeowner. CLEAN YOUR FINANCIAL HOUSE BEFORE YOU START SAVING FOR A REAL ONE Before investing in a home, get your financial house in order. To get the highest return on your investment and to maximize your chance to qualify for the best rate possible, you ll want to postpone large purchases, conserve your cash and pay down your existing debt, especially credit cards and other unsecured debts. By consolidating your debt under one low rate, you can 4

6 reduce the amount of total interest you ll pay, possibly lower your monthly payments and pay off your debt more quickly. For more information regarding debt consolidation options, call Central Credit Union at (708) Also keep in mind that you won t want to tie up all of your capital in your home. In general, it is wise to have some financial reserves on hand to cover your home costs as well as other major monthly expenses and incidentals in case of income loss. Down Payment Ideally, you d like to have enough money for a down payment of 20%. If you put down less than 20%, you ll probably be required by your lender to purchase Private Mortgage Insurance (PMI), which protects the lender should you default on your loan. If you are required to obtain PMI, it will be an expense added to your monthly mortgage payment. If you are unable to save 20% for a down payment, don t despair. You might have other options. Seller s Second Mortgage. If the seller of the home you d like to purchase really wants to sell, he or she may be willing to hold a second mortgage for part of your down payment. 80/10 Loans. An 80/10 loan is a first mortgage of 80% of your home s purchase price with a 10% equity line, which will enable you to only put down 10% of the purchase price. Because the mortgage is only for 80% of the purchase price of the home, you ll be able to avoid purchasing PMI. SAVING FOR YOUR DOWN PAYMENT WITH A ROTH IRA There are many ways you can invest to grow your money for a down payment on a home. One option is to save with a Roth IRA. While contributions to a Roth IRA aren t tax deductible, your earnings grow tax free as you save for retirement or your first home purchase. Contributions to Roth IRAs are subject to income restrictions. Once your money has been in a Roth IRA for five years, you may withdraw the funds tax free, up to $10,000, and put them 5

7 toward your first home purchase. Central Credit Union offers numerous Roth IRA and other investment products. For more information, please call (708) Monthly Mortgage Payment When budgeting, consider the cost of your monthly mortgage payment and the total cost of your other current monthly expenses. Furthermore, keep in mind how your monthly expenses might increase or decrease once you purchase a home. Taxes Although home ownership will probably provide you with some tax relief, you also need to take into consideration new taxes you will have to pay. Homeowners most commonly pay real estate taxes into an escrow account with their lender. Homeowners who have sufficient equity in their homes may not be required to have an escrow account. In such cases, homeowners can save for their taxes in an interest-bearing account or investment of their choosing. Insurance Premiums on homeowner s insurance and other insurance products can be costly. Contact your insurance agent prior to a home purchase to receive policy estimates. Up-Front Points And Closing Costs Points and closing costs are up-front expenses that you will need to pay before you close on a home. In general, closing costs range from 2% to 5% of a home s purchase price. Your lender will be able to give you an itemization of many of these fees. Some of the sources of the costs involved in closing include: Lender s appraisal, processing, funding and document preparation fees Title insurance Title company closing fee 6

8 Real estate transfer tax Attorney s fees County recording fees Other potential closing costs include initial escrow amounts for real estate taxes and insurance and mortgage interest from the day of closing to the end of the month in which you close. Maintenance In estimating your budget, remember to include money for the little disasters that pop up when you own your own property. Don t Shortchange The American Dream If you find your means are limited, don t give up. You may still have some options. Federal Housing Administration Loans If you re in need of assistance, you may qualify for a loan through the Department of Housing and Urban Development s loan insurance program. While the program is a government program administered by the Federal Housing Administration (FHA), loans are issued through private lenders. While closing costs and fees may be higher than with conventional loans and you may be required to pay one year s mortgage insurance premiums at the time of closing, you may be able to obtain a mortgage with as little as 3% to 5% down. The maximum amount you can borrow may be based on the county location of the property you re purchasing. Veterans Administration Loans You might also qualify for a VA loan if you re a veteran or in the military. With a VA loan, you ll generally pay less interest and won t need a down payment. The loan itself is guaranteed to the lender by the Veterans Administration. VA loans don t limit your 7

9 purchase price, but you ll obviously need to pay any amount the loan doesn t cover. Leasing With An Option To Buy If you re short on a down payment, you may be able to find a seller who will lease you a home with an option to buy at a later date. In such a case, a seller benefits through rental income and tax advantages and you benefit by having your rent payments allocated toward an agreed upon purchase price. Remember to consult an attorney before entering into any legal agreement to ensure that the terms of your lease are a win-win for both parties. Special Packages For Low-Income Borrowers Many lenders offer special packages for first-time home buyers and borrowers of limited means. Contact your state and local governments to see if they have any programs for which you might qualify. On Your Mark, Get Set... Give yourself a competitive edge in the home-buying process by getting pre-qualified or pre-approved for a loan. Loan Pre-Qualification vs. Loan Pre-Approval. Most lenders will pre-qualify you at no charge. A pre-qualification is a lender s best estimate of the maximum amount you ll qualify to borrow based on the information you provide. A pre-qualification is not a loan guarantee, but rather a good estimate of how much you ll be able to borrow and therefore the maximum price range you can afford. To know exactly how much you ll be able to borrow, you ll need to get pre-approved for a loan. A pre-approval differs from pre-qualification in that it is a guarantee of a loan based on confirmation of your financial status, credit history and the other factors your lender uses for loan evaluation. Most lenders charge for loan pre-approvals. The Pre-Approval Advantage. Before you apply for a loan preapproval, make sure your credit report is free of mistakes. Errors can hold up the approval process. 8

10 Armed with a pre-approved loan, you ll have a definite advantage in the marketplace. By knowing how much capital you have and the maximum you ll be able to borrow, you can narrow your shopping focus to a particular price range. But keep in mind that final approval of your loan amount is contingent on the appraised value of the home you want to purchase. If the home you want to buy is valued less than the price, you may not get your loan. Also, remember that just because you re pre-approved for a certain amount doesn t mean that is the amount you have to borrow. It is merely your upper limit. Remember, the money you save in purchasing a home is money that you can invest elsewhere. CENTRAL CREDIT UNION MORTGAGE PRE-QUALIFICATIONS AND PRE-APPROVALS Central Credit Union s mortgage services include loan prequalifications and low-cost pre-approvals. If you re looking to buy, call (708) Mortgage Options There are many different types of mortgages from which to choose. The most common mortgage options are as follows: Fixed-Rate Mortgages Fixed-rate mortgages are generally for 15- or 30-year terms. With a fixed-rate mortgage, you lock in your interest rate for the life of your loan and can feel secure knowing that your monthly payment is fixed. Fixed-rate mortgages are generally most popular when rates are low, which allows borrowers to lock in a low rate for their entire loan terms. However, since lenders are concerned about future rate increases, they price fixed-rate mortgages higher than variable-rate loans. Locking in a low rate with a fixed-rate loan will benefit you in times of inflation when other costs increase but your mortgage payment remains the same. Additionally, if you ever anticipate 9

11 turning the property into a rental property and you have locked in a low 30-year rate, you will have the benefit of increasing rent over the years while your mortgage costs remain constant. Adjustable-Rate Mortgages (ARMs) With an adjustable-rate mortgage, your interest rate is subject to change usually on a semi-annual or annual basis. Because the rates adjust to market conditions, these loans are of lower risk to the lender. Therefore, you are often able to obtain a much lower rate with an ARM than with a fixed-rate option. This can make ARMs particularly appealing if you only plan to stay in your home for the short-term. Because rates are generally lower on ARMs and you ll therefore pay less interest, you may be able to qualify to purchase a home with a higher purchase price. But remember, just because you can, doesn t necessarily mean you should. Keep in mind that you ll still need to be able to make your monthly payment if your rate reaches its cap. Plus, you could spend or invest elsewhere the money you d save with lower mortgage payments. With an ARM, you ll also automatically benefit from falling interest rates in the market place without needing to refinance. However, you ll also feel the impact when interest rates increase. Hybrid Mortgages An option that is particularly attractive to short-term borrowers looking for low rates is the hybrid mortgage. These mortgages tend to be priced lower than fixed-rate mortgages but offer the security of a fixed rate for a number of years and provide financing at a variable rate beyond the fixed-rate term. This ensures that you have financing should you decide to remain in the home longer than originally anticipated. Balloon Mortgages With a balloon mortgage, you ll enjoy the advantages of an interest rate lower than those on other loans with a large lump sum payment due at the end of your loan. This option may be appealing if you only plan to stay in your home for the short-term and plan to make the balloon payment when you sell. 10

12 If you go with this option, make sure you have made arrangements to finance the large balloon payment that will be due or that your loan has a conditional right to extend the loan at the end of the original term to a 30-year, fixed-rate loan. CENTRAL CREDIT UNION MORTGAGE OPTIONS Whether you re looking to buy or refinance, Central Credit Union has the mortgage options you need and the rates you re looking for. The credit union offers fixed-rate mortgages, adjustable-rate mortgages, hybrid mortgages, balloon mortgages and jumbo loans. For more information, including current rates, please call (708) Factors To Consider With Any Mortgage Whichever mortgage option you choose, there are several factors that will influence your total cost. Interest Rate The interest rate you obtain on your mortgage will have a significant impact on the amount you pay over the life of your loan and on your monthly payment and consequently on the purchase price you are able to pay. Points Points are up-front interest that you pay at the closing of your loan. Points are usually a percentage of your total loan amount and are inversely related to your interest rate. In other words, the higher your rate, the fewer points you ll tend to be charged. The money you pay in points is tax deductible. However, points can be a hefty up-front expense, so be sure to shop around keeping in mind that a loan without any points may have other hidden fees. 11

13 Other Expenses You ll also want to compare what various lenders charge for application fees, appraisals, processing and closing. Any reputable lender should be willing to provide you with written documentation of these charges. Shopping Around Could Make All The Difference There are many mortgage options, so it definitely pays to shop around. Consult realtors, family, friends, newspapers, real estate attorneys or your credit union for referrals, and make sure you re comparing apples to apples. Again, this is more easily done if you obtain all rates and potential fees in writing. Another good place to shop is on the Internet. Many sites like and offer current rates and other valuable information for the home buyer. You will find other valuable information regarding mortgages on Central Credit Union s web site at as well as on the individual sites of various realty and brokerage firms. People Who Need People Are Smart Home Buyers A real estate attorney, a realtor familiar with the area and a reputable home inspector are must-haves when shopping for a home. A good attorney will help ensure that any contract is in your financial interest and that all important details have been addressed. A knowledgeable realtor can provide valuable insight into unfamiliar neighborhoods and can also offer information important to the negotiation process. Finally a reputable home inspector will ensure that the property you are buying is as it appears and that you are not stuck paying for hidden problems further down the road. 12

14 Save yourself money and heartache when assembling your home-buying team by asking questions and demanding references. Then, check them out. Also, be wary of anyone who is being compensated for referrals, and beware of lenders and realtors who push you to buy outside of your budget. Shop With Wisdom And Inner Resolve As with any major purchase, you re likely to get a better deal and be more pleased with your purchase if you have a good idea what you want before you shop. When deciding what you want, consider the differences between purchasing a house, a condominium or a multi-unit dwelling. While a house offers more space and control, you might be better suited to life in a condo if you re looking for low maintenance. And, while a multi-unit dwelling is more labor intensive with management responsibilities, you have the benefit of having someone else help pay your living expenses. When shopping, keep in mind resale value. Because your home is an investment, you ll want to maximize your opportunity for a high return. When thinking about resale value consider location, floor plans, neighborhood norms and problems that will be difficult to fix. Make Them An Offer They Can t Refuse You re most likely to get the home you want at a fair price if you consult your realtor and make a reasonable bid based on: How long the house has been on the market How the asking price compares to other houses being sold in the area Drawbacks to the house that would bring down its price How quickly the seller wants to close 13

15 Tie Up All The Loose Ends The best deal on your dream home can fall apart, unless you follow through. The best sales contract will be contingent on: Getting your mortgage. This should go smoothly, because you were already pre-approved. Obtaining a positive report from a building inspector. It is best for both you and the seller to be present at the inspection of both the inside and outside of the property. Doing so will ensure that all parties have a clear understanding of the inspector s comments. Having a thorough legal review. Buying a home is a large investment. You ll sleep much better once a qualified attorney has reviewed your contract for any loopholes. Establishing an adequate time frame. Both you and the seller need to agree on a realistic time frame. Keep in mind that before you close you ll need to purchase title and home owner s insurance, establish rights of ownership and take your final walk-through. Enjoy Your Purchase If you ve made it this far, you ve dedicated a lot of time to the home-buying process, not to mention money. So be sure to protect your investment. Make Timely Payments Making late mortgage payments or missing them altogether can be costly and detrimental to your credit rating. To avoid making late payments, arrange with your lender to have your payments made electronically. And, if your payment is ever going to be late, inform your lender as soon as possible. 14

16 Keep Good Records To maximize your financial return, be sure to keep records of the interest you pay on your mortgage, your real estate tax payments and any improvements you make to your home that increase its value. These items provide certain tax advantages. Ignore Unsolicited Offers Be sure to throw away all of the unsolicited offers for mortgage insurance and payment plans you re sure to receive by mail. For the price, you might benefit more from a good life insurance policy and disability coverage. And payment plans encouraging you to pay off your mortgage early might end up costing you more in the long run, especially if your mortgage has prepayment penalties. Furthermore, you could come out ahead if you invest the money elsewhere that you would have put toward the extra payments. Watch The Market Although you shopped around and got a good deal, you might be able to get an even better deal if interest rates fall, especially if you opted for a fixed-rate mortgage. So watch for any financially beneficial refinancing opportunities. Home Is Where The Heart Is There is nothing quite as gratifying as realizing the dream of home ownership. While the process can be long and complicated, it is much easier and can be less costly when taken one step at a time. If you take the same time and care in purchasing a home and apply the same values as you do in making other major financial decisions, you should come out ahead. You ll be free of buyer s remorse and will have money left over to invest in other things that are important to you. Good luck, and enjoy your new home! 15

17 Index 80/10 Loans...5 Adjustable-Rate Mortgages Balloon Mortgages Can You Afford It? Central Credit Union Of Illinois Debt Consolidation...5 Home Equity Lines Of Credit...3 Home Equity Loans...3 Loan Pre-Approvals...9 Loan Pre-Qualifications...9 Mortgage Options...11 Rates...3, 11 Roth IRAs...6 Tax Advantages...3 Web Site...3, 12 Closing Costs...6-7, 12 Debt Consolidation Don t Shortchange The American Dream Down Payment...5, 7-8 Enjoy Your Purchase Equity...3, 6 Factors To Consider With Any Mortgage Federal Housing Administration Loans...7 Fixed-Rate Mortgages , 15 Hybrid Mortgages Increasing Your Net Worth Insurance...3, 5-7, Interest...5, 7, 9-12 Leasing With An Option To Buy...8 Loan Pre-Approval...8-9, 14 Loan Pre-Qualification Maintenance...4, 7, 13 Make Them An Offer They Can t Refuse...13 Making The Dream A Reality...2 Monthly Payments...5-6, 9-11, 14 Mortgage Options People Who Need People Are Smart Home Buyers Points...6, 11 Prepayment Penalties...15 Private Mortgage Insurance...5 Real Estate Taxes...3, 6-7, 15 Refinancing , 15 Rental Properties...3, 8, 10 Resale Value...13 Roth IRAs Seller s Second Mortgage...5 Shop With Wisdom And Inner Resolve...13 Shopping Around Could Make All The Difference...12 Special Packages For Low-Income Borrowers...8 Tax Advantages...3-6, 8, 11, 15 The Advantages Of Home Ownership The Disadvantages Of Home Ownership...4 Tie Up All The Loose Ends...14 To Buy Or Not To Buy? Veterans Administration Loans Web Sites

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