Buying a home in your 20s, even while going to school!
Since you are here, it is safe to assume that buying a home is important to you. You want to get home from work and feel the peace of mind that there is a place for you, your family, and your friends to enjoy. By preparing financially and creating the right financial habits, you can make your dream come true earlier than you think â€“ in your 20s!
Whatâ€™s your plan?
First, you have to find out if buying a home in the near future actually aligns with your short-term goals (next 5 years). Timing and goals are key here. These are some of the questions to ask yourself:
- How secure is my job? Do I expect my income to remain the same or increase?
- What is the likelihood that I will move in the next couple of years?
- How is the economy? An increase in mortgage rates can increase mortgage payments and also decrease value of homes.
- Do I have the discipline needed to control spending?
- Recent graduate? If so, am I expecting to get job offers away from my current city?
- If single, am I willing to live with friends or other trusted individuals to help pay the mortgage?
- If married, would I be willing to buy a home with a rental suite?
- Am I willing to do some house maintenance/improvements? (This is one of my favorite things actually!)
There are other questions that will come up as you consider buying a home. If any of the questions above signals a red flag, you should probably reconsider or start making some changes to prepare for the purchase.
What can you afford?
Let’s take a look at the cash you must have upfront. When you are looking around for a home, and you think you found the one, you have to know that there are other costs that will come up as you close the purchase â€“ not just the down payment! You should aim to have 1%-3% of the purchase price of the house for closing costs. Here are some of those extra costs to keep in mind:
- Legal fees & Disbursementsâ€“ You are going to need a lawyer and fees can vary, but you should prepare for $700-$1500. Disbursements $200-$400, which are items like registering your mortgage and doing a title search. TIP: Your real estate agent will most likely suggest a lawyer they have worked with in the past, but donâ€™t be afraid to call around to get an idea if what you will pay is reasonable.
- Property Tax Adjustment â€“ This was a total surprise to me when I bought my home from the prior owners. The previous owners had prepaid taxes for the year, and I had to reimburse them from the date I moved in, until the end of the year. Confused? For example, the prior owner paid $1000 in property tax for the year and you move in July 1, halfway through the year. As a result you pay the prior owner $500 for property taxes, or in other words, for your half of the year.
- Inspection– You pay on average $450 to the inspector to come look at the house you want to buy. Donâ€™t sign any papers until the inspection is done. Otherwise, include a conditional clause stating you must agree with the findings of the inspector when drawing up the paperwork. TIP: Be there with the inspector, ask questions and be as picky as possible when you find areas of concern in the house.
- Land Transfer Tax â€“ This amount depends on the province. Alberta has a small fee while other provinces use a percentage of your mortgage amount. Visit this page to get estimates for Alberta.
- Down Payment – By far this will be your most significant upfront cost. You are required to pay a minimum of 5%. If you do pay 5%, then you will have to borrow 95% of your total mortgage price (sounds obvious but thinking about it this way may motivate you to save more for the down payment), and as a result you are considered a high risk borrower. So what’s the catch? You are required to buy mortgage insurance from the Canada Mortgage and Housing Corporation (CMHC). You can pay for this insurance up front or include it in your mortgage – run this calculator to see how much you would pay.
Variable or Fixed Rate?
Fixed rate will cost you more in interest then variable. Fixed means you pay the same interest rate for a certain period or time, while variable rates will move up or down over time. Choosing between variable or fixed comes down to two things: how comfortable you are with risk and economic forecast. When we were applying for a mortgage our lender thought rates would remain the same for a couple of years with a chance of going up after 2-3 years. Both my wife (Vicki) and I lean towards the conservative side so we chose fixed. After 2.5 years I realized we could have saved a bit of money by going into variable rate, since rates dropped even further in July of this year, but as a first-time home buyer I wanted something concrete to start with. TIP: Visit ratespy.com to find the cheapest rate around!
The lender will ask you if you want mortgage insurance (this is not the same mortgage insurance required by CMHCÂ if you pay less than 20% down). Personally, I wouldn’t recommend it. If something were to happen to me or my wife (such as death) then the insurance will pay the mortgage’s remaining balance (this is the problem!). When you get mortgage insurance you commit to pay a certain amount each month, regardless of what is left of your mortgage. When you owe 85% of the mortgage the insurance is great, but when you only owe 5% you are still paying the same amount for a much smaller mortgage. In other words, the value of your insurance decreases as you pay your mortgage.
A good alternative is to buy life insurance instead. When I purchased my life insurance I made sure it covered the whole mortgage amount (i.e. $250,000), and the important difference is that if something were to happen to me, Vicki would receive the whole $250,000 which she could use to pay off the remaining mortgage balance and save the remaining balance for a later time. I tell her just to cremate me and throw the ashes in some river, then she doesn’t have to pay for an expensive funeral :)!
The best advice I can give you is to not be mortgage broke! You can buy a really nice starter home, or even your dream home, but before you sign you have to think of what lifestyle you want to have – or continue to have. Perhaps youÂ canÂ buy your home but does that mean you won’t be going to luxury vacations or going out to eat as often? Are you ready for that? Be warned! People who don’t ask themselves these questions are the ones living paycheck to paycheck because they are not willing to change their lifestyle to afford their new home.
- Utilities – If you have no idea how much to expect to pay in utilities, talk to a friend or family member that has a home close to the size you are looking for. I actually asked a friend, my brother and my parents. It gave me a good idea of what I would be paying for the size of the house I was looking at. Quick Story: We lived in our home for a few months then moved to Calgary for 8 months for an accounting co-op. The price my wife and I chose to charge our renters was partly based on what we usually spent on utilities. It only took two months for the renters to increase the electricity bill by $200! We had no idea that little things like turning off the light when walking out a room would make such a difference to the bill. We figured we were saving close to $1000 a year on electricity alone just by making an effort to use less of our services.
- Insurance – Same idea as above, talk to people and get an idea. You can also call your insurance and ask for an estimate. Expect to pay from $100 to $200 if your home is under 300K.
- Income/Expenses Ratio – You need to be as accurate as possible when calculating this ratio. After all, you should know how much of your income you will use on a monthly basis.Â The easiest way to find this ratio is to take a pen and paper and write down all the income you expect to receive on a monthly basis. Then write down all your expenses, ie. all insurance products, potential mortgage payments, estimate of utilities, groceries, entertainment, education, etc. I would add a little extra to cover unexpected costs you might encounter. To get your ratio use: total expenses/total income. If you get .60 then you estimate that 60% of your income will go away every month and the rest you can save. Notice that you are taking into account all your expenses, not just potential mortgage, and this is best since you want to know what your net income will be at the end of each month. You can see a clear picture of this in the Mint app/website – I talk about Mint here!
Buying as a student or recent grad
Let me tell you how I, and some of my friends have done it. Most of us worked long hours during the summer to be able to afford our first homes. For some of us, affording a home can be a bit more challenging since we have young children and therefore only 1 adult is working.
If you are married and your spouse is able to work, pay off your student loans as fast as possible. Once you get them paid off your credit score will go up (I’ll be having a special guest in the next couple of weeks to tell us about building strong credit!) and as a result it will be easier for you to get approved for a mortgage. If you two are disciplined enough to save money, you can have enough to buy within two years or less.
If you are single, you probably don’t earn that much if all you have is a summer job. I have friends in Lethbridge, AB who did construction and by working over time earned up to $20,000 per summer. Others, like myself, worked for a security company that offers a summer work program that paid pretty well. It’s a convenient summer job for students. But again, on average most students want to take some time off during the summer to take a break from school, or can’t find a high enough paying job locally.
Buy a home with a rental suite! These houses can be a bit harder to find, and may cost you a bit more but will help you bring in some extra cash to pay your mortgage. To give you an example, my home has a suite that pays about 67% of my mortgage. In fact, some months we pay less compared to when we used to rent. This option is perfect for married couples!
Another alternative, most likely possible by having your parents co-sign your mortgage (due to lower income on your part), is to buy a house and rent all possible rooms to friends and other trusted contacts. I have a friend who did just that and actually makes money every month off his renters. This extra income can be important in case renters go away during the summer. If you live in a place with at least 1 university you can feel confident you can find renters. It is best advised to find renters willing to sign at least a 1 year lease.
More to come..
Alright I think this is enough information for you to start with! I will go into further detail on some of the topics we have covered today, but for now, you have work to do.
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