The Home and Automobile Decision

Learning Objectives
1. Make good buying decisions.

2. Choose a vehicle that suits your needs and budget. 3. Choose housing that meets your needs.

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Learning Objectives
4. Decide whether to rent or buy housing. 5. Calculate the costs of buying a home. 6. Get the most out of your mortgage.

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Introduction
Buying a home is the single biggest

investment most people will make.

Buying a car is another major purchasing

decision.

Must fit lifestyle and wallet. Probably need a loan making dramatic impact on personal finances.
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Smart Buying
Step 1: Differentiate Want From Need Step 2: Do Your Homework

Step 3: Make Your Purchase

Step 4: Maintain Your Purchase

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Checklist 8.1

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Checklist 8.2

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Figure 8.1

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Smart Buying in Action: Buying a Vehicle

Choices to consider:
Buy new

Buy used
Leasing

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Smart Buying in Action: Buying a Vehicle

Step 1: Differentiate Want From Need
Features and qualities wanted Features and qualities needed

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Smart Buying in Action: Buying a Vehicle

Step 2: Do Your Homework How much can you afford? Down payment Monthly payment
Which vehicle is right for you?
Comparison shopprice and attributes Operating and insurance costs, and

warranty.

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Smart Buying in Action: Buying a Vehicle

Step 3: Make Your Purchase
Get a fair price:
Know the dealer cost or invoice price.

Dealer holdback2 to 3% that

manufacture gives the dealer on the sale of an automobile Approach dealers and get quotes Negotiate
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Checklist 8.3

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Checklist 8.4

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Smart Buying in Action: Buying a Vehicle

Step 3: Make Your Purchase
Financing Alternatives:
Cheapestcash

Investigate all financing options before

buying. Keep financing out of the negotiations. The shorter the term, the higher the monthly payments.
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Smart Buying in Action: Buying a Vehicle

Step 3: Make Your Purchase
Leasing: ideal for financially stable, want new car every few years, drive less than

15,000 miles annually, good credit, no down payment Closed-end or walk-away lease Purchase option Open-end lease

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Checklist 8.5

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Smart Buying in Action: Buying a Vehicle

Step 3: Make Your Purchase
Keys to getting a good lease:
Negotiate value for car before signing lease

Minimum down payment

Warrantydefine normal wear and tear Termination fee Depreciation factor Rent or finance charge
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Figure 8.2

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Smart Buying in Action: Buying a Vehicle

Step 4: Maintain Your Purchase
Keep vehicle in best running condition.

Dont ignore signs of trouble.

Your first line of protection is the warranty. Know your rights under the Lemon laws.
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Figure 8.3

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Smart Buying in Action: Housing

Many people equate home ownership with

financial success.

Housing costs can take up over 25% of after-tax

income.

Home ownership is also an investment biggest

investment you will ever make.

Use smart-buying approach.

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Your Housing Options

A House:
Most potential for capital appreciation.

Cooperatives and Condominiums:

Homeowners fee
Planned unit developments

Apartments and other rental housing

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Smart Buying in Action: Housing

Step 1: Differentiate Want From Need
What about the house is important?

Know what you want before you look.

Affordability, location, neighborhood,

conveniences, schools

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Smart Buying in Action: Housing

Step 2: Do Your Homework
Investigate the potential home and all that goes along with it: Neighborhood, community lifestyle, satisfy needs. How much you can afford to pay?

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Smart Buying in Action: Housing

One-time Costs: Down payment Closing/settlement costs
Points Loan origination fee Application fee Appraisal fee Title search fee

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Figure 8.4

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Smart Buying in Action: Housing

Recurring Costs Monthly mortgage payments PITI

Maintenance and Operating Costs: repairs, renovations, upgrades, landscaping

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Table 8.1

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Renting Versus Buying

Decision based on lifestyle Renting advantages: Financial and lifestyle flexibility Compare costs for each alternative Buying advantages:
Longer stay and appreciation, itemized

taxes, forced savings

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Figure 8.5

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Figure 8.6

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Determining What You Can Afford

What is the maximum amount the bank

will lend me?

Financial history Ability to pay Appraised home value

Calculating your mortgage limit Should I borrow up to this maximum?

How big a down payment can I afford?

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Figure 8.7 Worksheet for calculating the maximum size mortgage loan you qualify for

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Financing the PurchaseThe Mortgage

Sources of mortgages: S&Ls and commercial banks Credit unions, mutual savings banks Mortgage bankersoriginate mortgage loans, sell to banks, pension funds, insurance companies and collect payments Mortgage brokersmiddlemen comparison shop for a fee to secure mortgage loans for borrowers but do not originate the loans
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Conventional and GovernmentBacked Mortgages

Conventional loansfrom a bank or S&L

secured by the property. Government-backed loansloan from traditional lender but insured by governmentFHA and VA loans: lower interest rate, smaller down payment, less strict financial requirements more paperwork, higher closing costs, limited funding
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Fixed-Rate Mortgages
Monthly payment doesnt change regardless of market interest rate changes. Can lock in low rates for the life of the loan. An assumable loan can be transferred to a new buyer. Prepayment privilege allows early cash payments to be applied to principal.
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Adjustable-Rate Mortgages (ARM)

Interest rate of ARM fluctuates with level

of current interest rates.

Initial Rateteaser ratelow for only a

short time period then adjusted upward.

Interest rate indexrates on ARMs are tied

to an index not controlled by the lender, such as 6- or 12-month U.S. Treasuries.

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Adjustable-Rate Mortgages
Margin the amount over the index rate

that the ARM is set.

Adjustment Interval how frequently the

rate can be reset.

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Adjustable-Rate Mortgages
Payment Cap sets dollar limit on how

much the monthly payment can increase during any adjustment period. If interest rates go up, the monthly payment may be too small to cover the interest duenegative amortization.
Unpaid interest is added to the unpaid

loan balance, increasing its size.

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Adjustable-Rate Mortgages
ARM Innovations:
Convertible ARMto fixed-rate loan Reduction-option ARMone time opportunity to adjust interest rate. Two-step ARMcombined aspects of fixedrate and ARM.

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Adjustable-Rate Versus Fixed-Rate Mortgages

ARMs: low interest rate in early years. can get larger loan because PITI is lower. reset interest rates push ARM payments upward Fixed-rate mortgages: In general, fixed-rate better than ARM. Payments never change. Allows for control and planning.
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Specialty Mortgage Loan Options

Balloon Payment Mortgage Loan small

monthly payments for 5-7 years, then entire loan due.

Graduated Payment Mortgage payments set in advance, rising for 5-10 years, then level off.
Growing Equity Mortgage designed to let homebuyer pay off mortgage early.
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Specialty Mortgage Loan Options

Shared Appreciation Mortgage borrower

receives below-market interest rate, lender receives a portion of future appreciation.

Interest Only Mortgage interest only payment for initial set period, then pay both interest and principal for remainder of loan.

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Specialty Mortgage Loan Options

Option Payment ARM Mortgages can

make different types of mortgage payments each month

Options include:
Amount less than interest due Interest only

Payment amount of 150- or 30-year

fixed-rate loan

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Risks Associated with Specialty Mortgages

Big jump in monthly payments if interest

rates rise

Read fine print. Know how much your monthly payment could increase, when, and whether you

could afford them

Penalties
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Beware of Subprime Mortgages and Predatory Lending

Subprime mortgagesmortgages taken

out by borrowers with low credit scores.

Predatory lenders take advantage of these

lenders.

Abusive loanshigh-cost loans with little

chance of paying off

Avoid predatory loans with knowledge.

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Figure 8.8 Common Predatory Mortgage Lending Practices

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Mortgage Decisions: Length or Term of the Loan

15- or 30-year maturity on mortgage? Prepayment opportunities Size of monthly payment

Interest rate

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Figure 8.9 The Portion of Each Payment That Goes Toward the Principal and Interest on a 30-Year, 8% Fixed-Rate Mortgage for $80,000

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Table 8.2

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Figure 8.10 Comparing a Shorter- Versus LongerTerm Loan

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Smart Buying in Action: Housing

Coming up with the down payment
Save, gifts from family and friends
At least 5% of closing costs have to

come from homebuyer Gift letter

Private Mortgage Insurance Prequalifyinghave maximum amount youll qualify for confirmed by a lender
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Smart Buying in Action: Housing

Step 3:Make Your Purchase Comparison shop
Traditional real estate agent Independent or exclusive buyer-broker

Get it inspected
Make an offer and haggle
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Smart Buying in Action: Housing

Contract Earnest money Closing Settlement or closing statement

Step 4: Maintain Your Purchase Refinancing

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Figure 8.11 Worksheet for Refinancing Analysis

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Summary
Separate needs from wants, compare products, negotiate, maintain product, and

resolve complaints.

Lease or buy a vehicle that fits both your

personal and financial needs.

Choose housing that meets your needs,

preshop, comparison shop home and financing, and maintain if your purchase.

Get the most out of your mortgage.

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All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America.

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