Frugal Grad

Financial information for the recently-graduated

Month: August 2016

Housing costs

I don't think this will fit in the budget for my next house.

I don’t think this will fit in the budget for my next house.

While we’re on the subject of housing, there are a couple of points I would like to address. Housing plays a huge role in the area of personal finance, because for many of us, it will be our largest expense in life. As young adults, we are often pushed towards homeownership. There are easily accessible programs that allow you to put as little at 3% down, and some people will even qualify for 0% down loans. These programs are incredibly risky: by design, they are intended to help individuals with no savings or emergency cash. If these people do not have cash now, what will they do if a major component of their house needs replaced, such as HVAC or a roof? All of a sudden they find themselves in even more debt, to the point that they owe more than the house is worth.

As has often been pointed out on the Internet, a house is not always a great investment. In fact, for many people it becomes a financial drain. Our generation seems to think that if you get pre approved for a $300k mortgage, that you should go out and spend every last penny of it. We have grown up with House Hunters shows where the couples often go over their pre-set budget. As a result, our views on housing have become quite skewed.

It also makes me chuckle when I see these shows, and they need to have more bedrooms and bathrooms than they have people, plus a separate man-cave (I hate that term, by the way), a separate play area for the kids, and a separate place for the wife/mother to relax. I don’t know about the rest of you, but I married a woman I love. And while yes, we do occasionally like our time by ourselves, I’m not going to spend an extra $80k just to get more rooms that we are only going to use once a month. I have the same opinion on guest rooms: I’m not going to spend the extra $30-40k for an extra bedroom that will get used once a year. So if you really want to watch your finances, make sure you aren’t paying extra for items that won’t add any benefit to your life – the difference in housing costs could be enormous.

The 15-year mortgage

I was reading an article the other day about why you should choose the 15-year mortgage over the 30-year mortgage, so I’m going to skip ahead a couple steps in the financial advice process and give you my thoughts.

If you read through other financial independence/early retirement/financial planning websites, you will see most of them advocate for the 30-year mortgage. Mathematically speaking, the 30-year mortgage has historically been the better choice. With the common advice that “past performance is no guarantee of future returns,” I’m willing to bet the future of stocks will closely mirror the past. This means, that the return you could get by investing your money in the stock market would exceed the interest you would pay on the longer term loan. So in the current low-interest environment, you should always choose the 30-year loan.

That being said, I think there are other factors at play. First of all, most people are not going to be disciplined enough to invest the difference each and every month for 360 straight months. They are going to spend the extra on house decorations, new furniture and newer car – anything except investing it.

For me personally, I do not like the idea of having to write a check to the bank representing my largest monthly expenditure for 30 years. Psychologically, I feel much better not carrying that kind of a debt load. That’s why I will be opting for less house than I can afford, and taking the 15-year mortgage. Mathematically I may come out behind, but the reduction in stress knowing that I’m paying the principal down faster, and not having to write that check after 180 checks, is well worth it to me.

Everyone needs to be honest with themselves and assess which strategy is best for them.

 

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