Friday, September 3, 2004

Purchase me a big house

So after polling half the population of California last night about loans, we've decided to go with an Interest Only loan.

Judging by the audible gasp that I just heard you make, you might think thats a crazy idea. Well, I did at first too. In fact, I've been running around for the past 2 years telling people what a crazy idea it is.

What made me change my mind? Well, I finally sat down and actually calculated the difference between an interest only (hereafter i/o) loan and a regular amortized loan. The difference? Not much in the short term (less than 5 years).

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You probably already know this, but because of the way home loans are structured, for your first few years that you're paying it off on a regular amortized loan you're paying almost all interest anyway. The bank structures the payments so they get their money (the interest you pay) first, then you get your money (the principle, the equity in the home) later in the loan.

Hey, why run a bank if you don't get to do money tricks like that, eh?

So when I calculated it out for the length of time that we're planning to stay in the house we buy (less than 5 years) there isn't much difference in the amount of equity that we would have between the i/o and amortized loan.

As another bonus point for i/o loans, because you don't have to pay down the principle, the payments will be much lower, thus we can buy more house.

And the amount of house that we can afford with an i/o loan is just about the level of house that we've been wanting.

4 comments:

Susan (your Calgary Cuzzin) said...

Hi Andrew & Shannon. Altho I'm in Calgary, I find your house hunting in CA quite interesting. Also, I work for a land developer so have perhaps more idea than the average bear what you're doing.

Calgary (along with most of Canada), has been going thru a housing boom for the last several years. Don't know about Calif, but here we go thru cycles that of course nobody can predict. I can tell you that we are bracing now for a downturn, altho nobody knows just when it will happen. The baby boomers are still powering the surge, plus low interest rates and incentives to first time home buyers are doing it too. Unfortunately, many of these first time buyers are stretched to the limit, and an increase of just .5 to 1 percent on their mortgages might be too much.

My suggestion to you, if you're considering an interest only mortgage, is to reconsider renting and give yourselves more time to save. If your condo doesn't increase in value, that is effectively what you're doing anyway with an interest only mortgage. Plus, the condo fees will only go up. What happens if your condo value goes down? But then I'm forgetting that you lucky folks in the USA get to deduct your mortgage interest payments from your income tax, altho that catches up to you when you sell, doesn't it? (I spose that would be the only time when a downturn in the market would be good, huh?)

I guess, if I have one single piece of advice, it would be to buy a home that you can enjoy living in AND afford, not for its potential re-sale value. You already sound like you're keeping your expectations realistic and that's impressive. Just don't get too impatient. Wear out a few realtors.

Sandra said...

I really like the tent you picked out in the last picture. will you repaint? I am going for a yurt myself. they are more round and woolly. I hope everything works out.

Shannon said...

Sandy,
I LOVE yurts! Andrew isn't so keen on yurts though. I still want one of those manufactured round homes.

Andrew said...

Susan,

Thanks for all of the good information. We actually get to deduct our interest payments (and property taxes) on every year's income tax returns. Thus if we buy like it currently looks like we will, we'll be deducting about $24k from our income every year. That helps out quite a bit.

We've been thinking about whether the market will go up or down too lately, but since we're buying for about the 5 year range, I don't think it will go down in that timeframe. The area we're buying in has been going up about 4-5% a month for the past 6 months, and is admittedly a little hot. Of course it can't sustain that, but historically california has been around a 7% rise.

So we figure even if it drops for a couple years since we're on the 5 year timeframe it will be back even or up by the time we want to sell. And if its not, we'll stay longer :D