1. Copyright ©2004 Pearson Education, Inc. All rights reserved. Chapter 9 Purchasing and Financing a Home

2. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-2 Chapter Objectives Explain how to select a home to purchase Explain how to conduct a valuation of a home Describe the transaction costs of purchasing a home Identify the characteristics of a fixed- rate mortgage

3. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-3 Chapter Objectives Describe the characteristics of an adjustable-rate mortgage Show how to compare the costs of purchasing versus renting a home Explain the mortgage refinancing decision

4. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-4 Selecting a Home Purchasing a home may be the single biggest investment you will ever make and requires serious consideration Relying on a realtor can be helpful, but make decisions that meet your needs Using online realtor services usually saves money in commission charges

5. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-5 Selecting a Home How much can you afford? –Affordable down payment Down payment usually 10 – 20 percent of purchase price What is the market value of the assets you will use to make your down payment? You also need to allow for closing costs and some unanticipated expenses

6. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-6 Financial Planning Online: How Much Money Can You Borrow? Go to: http://www.financenter.com/products/sel lingtools/calculators http://www.financenter.com/products/sel lingtools/calculators Click on: “Home,” then “How much can I borrow?” This Web site provides an estimate of how much you could borrow to finance a home.

7. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-7 Selecting a Home –Affordable monthly mortgage payments Refer to your cash flow statement Your mortgage payment may replace a rent payment but there are other expenses to consider Allow for continued saving Criteria used to select a home –Price –Convenient location

8. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-8 Financial Planning Online: Recent Sales Prices of Nearby Homes Go to: http://realestate.yahoo.com/re/homevalues/ http://realestate.yahoo.com/re/homevalues/ This Web site provides sales prices of homes on a street in a city that you specify over a recent period.

9. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-9 Selecting a Home –Maintenance –School system –Insurance –Taxes — usually between 1 and 2 percent of market value of home –Homeowner’s Association –Resale value — consider real estate commission –Personal preferences

10. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-10 Financial Planning Online: Listing of Homes Nearby for Sale Go to: http://www.realtor.comhttp://www.realtor.com This Web site provides a listing of homes for sale in an area that you specify and homes in the price and size range that you specify.

11. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-11 Selecting a Home Focus on Ethics: Disclosing Defects –Most state laws require disclosure of any defect that may effect the value of the home –Disclosure is not only legal, but moral –Failure to disclose can result in a lawsuit for misrepresentation

12. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-12 Valuation of a Home Market analysis: an estimate of the price of a home based on the prices of similar homes in the area –Usually based on price per square foot –Information can be obtained from a real estate broker or appraiser

13. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-13 Valuation of a Home Exhibit 9.1: Using a Market Analysis to Purchase a Home

14. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-14 Valuation of a Home Effects on business activity and zoning laws –Business activity nearby increases demand for housing in an area –Zoning laws may affect desirability Obtaining a second opinion on your valuation –Remember that brokers represent sellers!

15. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-15 Valuation of a Home Negotiating a price –Most sellers will accept less than their asking price –Seller may accept your offer, reject it, or suggest a revision –A contract will stipulate the agreed upon price and any other conditions

16. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-16 Transaction Costs of Purchasing a Home Down payment –Usually 10 to 20 percent –Serves as collateral –Lower down payment may be required for government backed loans Federal Housing Administration (FHA) Veterans’ Administration (VA)

17. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-17 Transaction Costs of Purchasing a Home Closing costs –Loan application fee — from $100–$500 –Points: a fee charged by the lender when a mortgage loan is provided — from 1–2% of the loan –Loan origination fee — about 1% of the mortgage amount –Appraisal fee — from $200–$500 –Title search and insurance

18. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-18 Financial Planning Online: Applying For a Mortgage Go to: http://www.bloombert.com/money/loan/ mtge_calc.html http://www.bloombert.com/money/loan/ mtge_calc.html This Web site provides access to mortgage applications, and a guide for assessing whether to refinance a mortgage.

19. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-19 Characteristics of a Fixed-Rate Mortgage Fixed-rate mortgage: a mortgage in which a fixed interest rate is specified until maturity Preferred when interest rates are expected to rise May be assumable under some conditions

20. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-20 Financial Planning Online: Average Mortgage Rates Go to: http://biz.yahoo.com/b/r/m.htmlhttp://biz.yahoo.com/b/r/m.html This Web site provides national averages for mortgage rates, as well as average mortgage rates for specific regions and states.

21. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-21 Characteristics of a Fixed-Rate Mortgage Amortization table –Basis for monthly mortgage payment amount for a fixed-rate mortgage –Allocation of the mortgage payment — each payment represents a partial payment of principal and a partial payment of interest

22. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-22 Characteristics of a Fixed-Rate Mortgage Exhibit 9.2: Amortization Schedule for a 30-Year (360-Month) Fixed-Rate Mortgage for $72,000 at an 8 Percent Interest Rate

23. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-23 Characteristics of a Fixed-Rate Mortgage Exhibit 9.3: Allocation of Principal versus Interest Paid per Year on a $72,000 Mortgage

24. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-24 Characteristics of a Fixed-Rate Mortgage Exhibit 9.3 (continued)

25. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-25 Characteristics of a Fixed-Rate Mortgage Impact of the mortgage amount on the monthly payment –The larger the mortgage amount, the larger the mortgage payment Impact of the interest rate on the monthly payment –The larger the interest rate, the larger the mortgage payment

26. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-26 Characteristics of a Fixed-Rate Mortgage Impact of the mortgage maturity on the monthly payment –The longer the maturity, the lower the monthly payment –The longer the maturity, the more interest you pay over the live of the loan

27. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-27 Characteristics of a Fixed-Rate Mortgage Impact of the interest rate on the monthly payment –The higher the interest rate, the higher the payment Impact of the mortgage maturity on the monthly payment –The longer the maturity, the higher the payment

28. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-28 Characteristics of a Fixed-Rate Mortgage Exhibit 9.4: Monthly Mortgage Payments Based on Different Mortgage Amounts (30-Year Fixed-Rate Mortgage; Interest Rate = 8 Percent)

29. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-29 Characteristics of a Fixed-Rate Mortgage Exhibit 9.5: Comparison of Monthly Payments for a 30-Year versus a 15-Year Mortgage of $72,000 Based on Different Interest Rates

30. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-30 Characteristics of a Fixed-Rate Mortgage Exhibit 9.6: Comparison of Mortgage Balance for a 15-Year versus a 30-Year Mortgage (Initial Mortgage Amount = $72,000; Interest Rate = 8 Percent)

31. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-31 Characteristics of a Fixed-Rate Mortgage Estimating the monthly mortgage payment –Many mortgage loan Web sites offer mortgage calculators to estimate monthly payments based on a specific mortgage amount, interest rate, and maturity

32. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-32 Financial Planning Online: Estimating Mortgage Payments Go to: http://www.bloomberg.com/money/loan/ mtge_calc.html http://www.bloomberg.com/money/loan/ mtge_calc.html This Web site provides the monthly payment on a mortgage based on the loan amount, interest rate, and the loan maturity.

33. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-33 Financial Planning Online: Should You Obtain a 15-Year or a 30-Year Mortgage? Go to: http://www.financenter.com/products/ sellingtools/calculators http://www.financenter.com/products/ sellingtools/calculators Click on: “Home,” then “Which is better: 15-or-30 year term?” This Web site provides a comparison of payments on a 15-year versus a 30-year mortgage.

34. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-34 Characteristics of an Adjustable- Rate Mortgage Adjustable-rate mortgage (ARM): a mortgage where the interest owed changes in response to movements in a specific market-determined interest rate Initial rate — usually relatively low Interest rate index — determines whether mortgage rate goes up Frequency of rate adjustments — varies

35. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-35 Characteristics of an Adjustable- Rate Mortgage Caps on adjustable-rate mortgages –Caps: maximum and minimum fluctuations in the interest rate on an ARM –Limits the fluctuations in interest rate Financing with a fixed- versus an adjustable-rate mortgage –Depends on you expectation of future interest rates

36. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-36 Financial Planning Online: Should You Obtain a Fixed- or an Adjustable-Rate Mortgage? Go to: http://www.financenter.com/products/ sellingtools/calculatorshttp://www.financenter.com/products/ sellingtools/calculators Click on: “Home,” then “Which is better: fixed or adjustable?” This Web site provides a comparison of payments on a fixed-rate versus an adjustable-rate mortgage.

37. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-37 Decision to Own a Home versus Rent Consider financial assessment before considering personal preferences Estimating the total cost of renting and owning –Renting — rent payment, security deposit –Owning — down payment, mortgage payment, closing costs, maintenance, taxes and insurance Owning also has tax advantages

38. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-38 Financial Planning Online: Should You Rent or Buy? Go to: http://loan.yahoo.com/m/http://loan.yahoo.com/m/ Click on: Calculators This Web site provides a recommendation on whether you would buy a home, based on your rent versus the expenses of the home you are considering.

39. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-39 Decision to Own a Home versus Rent Exhibit 9.7: Comparing the Total Cost of Renting versus Buying a Home over a Three-Year Period

40. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-40 Special Types of Mortgages Graduated payment mortgage: a mortgage where the payments are low in the early years and then rise to a higher level over time Balloon payment mortgage: a mortgage where the monthly payments are relatively low, but one large payment is required after a specified period to pay off the loan

41. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-41 Mortgage Refinancing Mortgage refinancing: paying off an existing mortgage with a new mortgage that has a lower interest rate Refinancing analysis — compare the monthly savings to the cost of refinancing –Must pay additional closing costs

42. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-42 How a Mortgage Fits within Your Financial Plan Key mortgage loan decisions for your financial plan are: –What mortgage amount can you afford? –What maturity should you select? –Should you consider a fixed-rate or an adjustable-rate mortgage?

43. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-43 Integrating the Key Concepts

44. Copyright ©2004 Pearson Education, Inc. All rights reserved.9-44 Integrating the Key Concepts Part 1: Financial Planning Tools Part 2: Liquidity Management Part 3: Financing –In Chapter 8 we learned about personal loans –In Chapter 9 we learned about purchasing and financing a home Part 4: Protecting Your Wealth Part 5: Investing Part 6: Retirement and Estate Planning