Saving to buy a house strategies
March 3, 2016 4:36 AM Subscribe
Soon we will be completely out of debt and are considering buying a place in the mid-distant future. What is the best strategy investment and tax-wise to save up for a down payment? Any tips or tricks? Low hanging fruit?
I'm willing to optimize but not obsess. We are not in a hurry to buy (think 5 years to build up a large-ish down payment).
We have invested in traditional 401k/IRAs to get our complete employee matches. Once out of debt we would like to save more with an eye toward retirement with the flexibility of using it for a home down-payment depending on how the financial modelling works out.
Details: We live in Chicago, Illinois but are Canadian (we might need the flexibility of returning home at some point and may be ineligible if there are citizen only benefits).
We are not looking for a big home. We are not moving out of the city if we can help it.
I'm willing to optimize but not obsess. We are not in a hurry to buy (think 5 years to build up a large-ish down payment).
We have invested in traditional 401k/IRAs to get our complete employee matches. Once out of debt we would like to save more with an eye toward retirement with the flexibility of using it for a home down-payment depending on how the financial modelling works out.
Details: We live in Chicago, Illinois but are Canadian (we might need the flexibility of returning home at some point and may be ineligible if there are citizen only benefits).
We are not looking for a big home. We are not moving out of the city if we can help it.
Contributing at least some towards a Roth IRA sounds perfect for you in this situation. You can withdraw your contributions (though not the earnings) tax-free at any time and there is a first-time homebuyer provision that lets you withdraw $10,000 for costs associated with buying a first home if you've had the account for at least 5 years (so get started with it soon!) You can contribute at most $5500 each per year but the limit is combined with the limit for traditional IRAs, so if you are already contributing $5500 to a traditional IRA you can't also contribute $5500 to a Roth IRA.
posted by matcha action at 5:16 AM on March 3, 2016 [2 favorites]
posted by matcha action at 5:16 AM on March 3, 2016 [2 favorites]
Very low down-payments require that you purchase mortgage insurance, which is just an added cost among many. It's probably wise to put down at least 10%, which seems possible if you're giving yourself 5 years. A CD or money market account would be best, since they are low-risk, but also low interest rates mean you won't earn much on that money in the meantime.
posted by deathpanels at 5:39 AM on March 3, 2016 [1 favorite]
posted by deathpanels at 5:39 AM on March 3, 2016 [1 favorite]
I would put your money in a Vanguard mutual fund that follows the stock market. Deathpanels is very right that low risk tools like CDs are best for short term investments, but (based on your questions) I am assuming you're young. CDs typically won't outpace inflation. The stock market will outpace it a few percent on average. You would just have to save for a bit longer if the market fell. (I just think of CDs for old people, because they don't have more earning time if the market turns. I want to make MORE! with the money I've earned. The stock market will do this predictably over time). Congrats on getting out of debt and your ventures into investing.
posted by Kalmya at 5:46 AM on March 3, 2016
posted by Kalmya at 5:46 AM on March 3, 2016
If you may or may not return to Canada, why would you buy a home?
Buying a home only makes financial sense if you plan on living in it for a very long time. It used to be when the real estate market was booming that buying a home was a way to wager on rising home prices. And in a boom, it's something that pays off.
Then there's recession and financial collapse. Go see The Big Short.
I just linked to this article, and I think it would behoove you to read it and think again and then three times about WHY you want to buy a home, and what you think would be the financial benefit of doing so
As for saving for a home, here's what you do.
1. Pay off debt
2. Save up for a 20% down payment, and another 5% for closing costs
3. Save up around $10,000 for a 'shit gonna break' fund, because shit breaks.
4. Save up 6 months worth of living expenses to buffer you should one of you lose your job or become disabled.
Only when you have all this money amassed, is it really even a good idea to start home shopping.
Where to save this dough? A Roth, CDs, Treasury Bills. All are decent enough vehicles for this.
posted by Ruthless Bunny at 6:02 AM on March 3, 2016 [5 favorites]
Buying a home only makes financial sense if you plan on living in it for a very long time. It used to be when the real estate market was booming that buying a home was a way to wager on rising home prices. And in a boom, it's something that pays off.
Then there's recession and financial collapse. Go see The Big Short.
I just linked to this article, and I think it would behoove you to read it and think again and then three times about WHY you want to buy a home, and what you think would be the financial benefit of doing so
As for saving for a home, here's what you do.
1. Pay off debt
2. Save up for a 20% down payment, and another 5% for closing costs
3. Save up around $10,000 for a 'shit gonna break' fund, because shit breaks.
4. Save up 6 months worth of living expenses to buffer you should one of you lose your job or become disabled.
Only when you have all this money amassed, is it really even a good idea to start home shopping.
Where to save this dough? A Roth, CDs, Treasury Bills. All are decent enough vehicles for this.
posted by Ruthless Bunny at 6:02 AM on March 3, 2016 [5 favorites]
As deathpanels said you really want to avoid Private Mortgage Insurance (PMI) which are additional monthly payments required by most lenders for anyone who hasnt put 20% down or reached 20% of the purchase price in equity.
A "very large" down payment doesnt really make sense in the current mortgage market, where rates are maaybe creeping up slowly from historical all-time lows. You want to have 20% of the purchase price, plus closing costs in cash, and maybe a small fund for contingencies etc. it doesnt make sense to save up till you have half the cash to plunk down, you'd be shocked at how cheap borrowing is. (seriously, go talk to a mortgage broker and get a sense of their requirements and the approximate costs for borrowing whatever you think you will need, it will give you a better idea of the realities of making this happen).
As far as the logic that buying a home only pays off in the long run, i think that is dubious at best given the market. Even if you only see yourself staying for 5 or so years, think about rent increases over that time. Here in NYC that prospect alone would be sufficient for me to justify buying over renting if it were an option - regardless of the appreciation of the unit itself. Double digit rent increases for renewing renters have been a thing in new york for a while.
Also there is no such thing as a disambiguated housing market - dont make your decision based on mcmansions in omaha, or even the entirety of the chicago market. what do pricing trends look like for the specific type of housing in the specific areas you are targeting? There may be a coming bubble, or not. "am i paying too much for this thing im buying" is ALWAYS a reasonable first question when evaluating your rationale for making a purchase. We decided to buy because we found a unit in a red hot market that still seemed somewhat undervalued - its a non-luxury one bedroom in a great location. We are confident that even as the idiots who payed literally three times what we did for their 1BRs in a new build down the block will see no price appreciation or even reductions in their values, demand for solid unflashy but well located places will remain strong.
posted by Exceptional_Hubris at 6:18 AM on March 3, 2016
A "very large" down payment doesnt really make sense in the current mortgage market, where rates are maaybe creeping up slowly from historical all-time lows. You want to have 20% of the purchase price, plus closing costs in cash, and maybe a small fund for contingencies etc. it doesnt make sense to save up till you have half the cash to plunk down, you'd be shocked at how cheap borrowing is. (seriously, go talk to a mortgage broker and get a sense of their requirements and the approximate costs for borrowing whatever you think you will need, it will give you a better idea of the realities of making this happen).
As far as the logic that buying a home only pays off in the long run, i think that is dubious at best given the market. Even if you only see yourself staying for 5 or so years, think about rent increases over that time. Here in NYC that prospect alone would be sufficient for me to justify buying over renting if it were an option - regardless of the appreciation of the unit itself. Double digit rent increases for renewing renters have been a thing in new york for a while.
Also there is no such thing as a disambiguated housing market - dont make your decision based on mcmansions in omaha, or even the entirety of the chicago market. what do pricing trends look like for the specific type of housing in the specific areas you are targeting? There may be a coming bubble, or not. "am i paying too much for this thing im buying" is ALWAYS a reasonable first question when evaluating your rationale for making a purchase. We decided to buy because we found a unit in a red hot market that still seemed somewhat undervalued - its a non-luxury one bedroom in a great location. We are confident that even as the idiots who payed literally three times what we did for their 1BRs in a new build down the block will see no price appreciation or even reductions in their values, demand for solid unflashy but well located places will remain strong.
posted by Exceptional_Hubris at 6:18 AM on March 3, 2016
You don't want to put your downpayment cash in equities. It should be in something very low risk. The tax angle is tough to minimize for a home.
posted by JPD at 7:11 AM on March 3, 2016
posted by JPD at 7:11 AM on March 3, 2016
My strategy for years - which was considered so controversial that my HR person pulled me aside and essentially asked me if I knew what I was doing - was a simple one.
1) Contribute only enough to a 401(k) to get the match
2) Direct-deposit only enough money to get by with a limited budget in my checking account
3) Direct-deposit the rest into a "high-yield" savings account and let it sit
This resulted in a strange situation where most of my check was not going to the 401(k) or my checking account, but what was ultimately a pretty conventional savings account. Why on earth would I pass up the tax advantages of the 401(k) to have so much money go to a savings account that promised almost no earnings? Why were my expenses cut back in my personal life only to give my money to the government and a bank that wasn't giving much back?
Because I knew that one day I would need to move quickly on a house, in whatever shape the housing market was in, and that having money in a liquid, no-risk account was going to help me. That day came near the bottom of the housing market, during the period banks had largely stopped lending and the government was actually giving people substantial tax credits to buy houses. I needed to close on our house very quickly - but since I had excellent credit with access to a pool of money for the down payment that was only a signature away and could be quickly verified by the bank, there was no significant problem getting a conventional mortgage at a time many could not. No escrow costs, no PMI, an insanely low interest rate and I was able to get in on a very nice first time homebuyer tax credit and a good price on my house.
Having liquid funds has greatly diminished my transactional costs, and my house has appreciated in value much, much more than that 401(k) would have. I've talked with a lot of people who structure their savings to lock money away in equities for retirement where they believe they will be able to withdraw it in a tax-advantaged environment decades in the future, while at the same time they struggle with debt and what appear to be missed opportunities in their day to day lives. I just took the tax hit up-front to be able to use my savings flexibly, and that allowed me to leverage my way into less debt, tax-advantaged purchases, and well-timed investments. I have not budged in my belief that the 401(k) and mutual funds are poor savings vehicles for those of limited or moderate means. There are plenty of ways to set your family up for later success without touching equities.
So just save the money. Shop around to get a boring old savings account that gives you 1% or close to it, and direct deposit as much as you can into it. Don't get me wrong, keep contributing to your Roth and enough to get your 401(k) match. Maybe get some Series I savings bonds (which have no risk and will keep pace with inflation) if your checking account exceeds what you expect to put down on a house. But most importantly, keep it low-risk, liquid and away from your checking account - and move fast on a good deal, whatever that ends up being.
Keep in mind that the *worst-case scenario* with this plan is that you have money in the bank.
posted by eschatfische at 7:23 AM on March 3, 2016 [6 favorites]
1) Contribute only enough to a 401(k) to get the match
2) Direct-deposit only enough money to get by with a limited budget in my checking account
3) Direct-deposit the rest into a "high-yield" savings account and let it sit
This resulted in a strange situation where most of my check was not going to the 401(k) or my checking account, but what was ultimately a pretty conventional savings account. Why on earth would I pass up the tax advantages of the 401(k) to have so much money go to a savings account that promised almost no earnings? Why were my expenses cut back in my personal life only to give my money to the government and a bank that wasn't giving much back?
Because I knew that one day I would need to move quickly on a house, in whatever shape the housing market was in, and that having money in a liquid, no-risk account was going to help me. That day came near the bottom of the housing market, during the period banks had largely stopped lending and the government was actually giving people substantial tax credits to buy houses. I needed to close on our house very quickly - but since I had excellent credit with access to a pool of money for the down payment that was only a signature away and could be quickly verified by the bank, there was no significant problem getting a conventional mortgage at a time many could not. No escrow costs, no PMI, an insanely low interest rate and I was able to get in on a very nice first time homebuyer tax credit and a good price on my house.
Having liquid funds has greatly diminished my transactional costs, and my house has appreciated in value much, much more than that 401(k) would have. I've talked with a lot of people who structure their savings to lock money away in equities for retirement where they believe they will be able to withdraw it in a tax-advantaged environment decades in the future, while at the same time they struggle with debt and what appear to be missed opportunities in their day to day lives. I just took the tax hit up-front to be able to use my savings flexibly, and that allowed me to leverage my way into less debt, tax-advantaged purchases, and well-timed investments. I have not budged in my belief that the 401(k) and mutual funds are poor savings vehicles for those of limited or moderate means. There are plenty of ways to set your family up for later success without touching equities.
So just save the money. Shop around to get a boring old savings account that gives you 1% or close to it, and direct deposit as much as you can into it. Don't get me wrong, keep contributing to your Roth and enough to get your 401(k) match. Maybe get some Series I savings bonds (which have no risk and will keep pace with inflation) if your checking account exceeds what you expect to put down on a house. But most importantly, keep it low-risk, liquid and away from your checking account - and move fast on a good deal, whatever that ends up being.
Keep in mind that the *worst-case scenario* with this plan is that you have money in the bank.
posted by eschatfische at 7:23 AM on March 3, 2016 [6 favorites]
We didn't go through the process Ruthless Bunny describes. We are still paying off my husband's student loan, and we are very happily in our second house after selling our first house, which was our entry point into the market.
My best advice to you is to shop for a mortgage (which is a product like any other and you should shop around for it), get a sense of the housing market where you want to stay for 5-7 years at minimum, and then set your goals based on that. You can do this now, even if you are not ready to buy just yet, just so that you have a clear picture to work with. Then you can take your next steps (such as modifying the amount you're putting into retirement one year, or choosing a different withholding level, etc.) with a real number in front of you.
posted by Pearl928 at 10:34 AM on March 3, 2016
My best advice to you is to shop for a mortgage (which is a product like any other and you should shop around for it), get a sense of the housing market where you want to stay for 5-7 years at minimum, and then set your goals based on that. You can do this now, even if you are not ready to buy just yet, just so that you have a clear picture to work with. Then you can take your next steps (such as modifying the amount you're putting into retirement one year, or choosing a different withholding level, etc.) with a real number in front of you.
posted by Pearl928 at 10:34 AM on March 3, 2016
This thread is closed to new comments.
With an FHA loan you need just 3.5% down-payment. There are some restrictions on the condition and the cost of the house but it sounds like you should qualify.
posted by mareli at 4:49 AM on March 3, 2016 [2 favorites]