If you are a typical home buyer, paying less than 20% down, there is about a 90% chance that you'll use an FHA, VA or USDA loan to finance the purchase of your first home. If you do choose one of these "government insured" loans, you'll be subject to high fees and interest costs that will amount to more than the entire price of your home.
In fact, a $100,000 home financed by an FHA insured mortgage, with a 5% down payment will cost you approximately $235,000 over the life of your 30 year mortgage, and you'll be paying virtually nothing but interest, taxes, insurance and loan fees for about the first 12 years.
Here are some quick and easy tips for saving tens of thousands of dollars on your home mortgage:
1. Pay as much as you can up front in your down payment. Most people opt for the lowest down payment possible, to minimize up front costs, but this means that the loan will be that much more expensive over time. Reducing your loan balance saves a lot of money over the years in interest expenses.
(Don't fall for the argument that mortgage interest is tax deductible. That deduction will probably disappear in the near future. And the data shows that most first time or lower income home buyers do not itemize their taxes anyway.)
2. Prepay something on your loan principal from day one.
If you are buying in the near future, make plans to pay an additional amount each month, over and above your regular mortgage payment. Write a separate check for this amount. Do NOT add it into your mortgage payment. Write two checks. One for the mortgage payment, and one for the additional amount you wish to pay towards your loan principal. Label this check as "payment on principal" and check your monthly statement to insure that the additional prepayment is credited to your loan balance.
You can take a 30 year mortgage so as to keep your regular monthly payment as low as possible. But in order to save interest, include a prepayment each month as stated above. If you financed $95,000 for 30 years at 5% interest, and pay nothing but your regular payment each month for the entire 30 years, you'll pay out $88,593 in interest on that loan, and assuming your first payment was January of 2013, you will not have this loan paid off until December of 2042. And it will be 2030 before your regular monthly payment reaches the point where you are paying your loan down instead of paying mostly interest.
If you pay just $25 per month extra, starting with your very first mortgage payment, you'll save $10,323 in interest costs, and your loan will be paid off 3 years earlier. Paying $50 per month extra will save you around $20,000 of interest, and your mortgage will be paid off a full 5 years earlier.
Shortening your loan length increases the monthly payment, but also pays the loan down faster. However, you can have the benefits of a 30 year loan combined with a shorter, lower cost loan, simply by financing long then prepaying as much as possible on the principal. Only $100 extra applied each month will cut your loan term by virtually 10 years. The $1200 invested yearly for 20 years will save $30,000 in interest costs. This is an 8% return on your money instead of a $30,000 expense.
Even if you have already owned your home for a few years, prepayments always make sense for the typical owner-occupant buyer with an income below $100,000 per year. If you are in the later years of an existing mortgage, you can still shorten the time frame and lower the effective interest rate with the use of prepayment strategies instead of a refinance which may actually cost more.
3. Take The True Costs Of Ownership Into Account Before You Buy.
No one tells you how much your home is really going to cost to maintain and "own". Ownership responsibilities and costs go well beyond the principal and interest on your mortgage payment. A $100,000 home, relatively cheap by today's standards, will have property taxes to pay ranging from hundreds to thousands of dollars each year. And any home with an FHA insured loan will require insurance; another $1000 or so per year. These two items will also be part of your mortgage payment, in order to insure that they are paid on time each year.
Will this home need painting every few years? How about the condition of the roof? Are the HVAC and plumbing new or older? These are all items that will cost something to repair or replace over the life of a 30 year mortgage. All extra expenses over and above the purchase price.
4. Pay Attention To The Fees And Other Loan Costs.
FHA insured loans come with a variety of fees that may be included in the monthly payment. It's important to understand what those fees are, what they are for, and how much they will cost you. In my experience as a real estate agent, I've noticed that few buyers are aware of these fees and expenses related to their home purchase. Some of these fees could add up to thousands of dollars. Pay attention to these costs and negotiate to get them reduced whenever possible.
Housing Market Stability Rests On A Foundation Of Home Owners
Many homeowners with FHA insured loans are in over their heads already. Default rates are high and neighborhood upkeep is low. This is combining for a one-two punch in many neighborhoods across the country. It's no fun for the borrowers either. Losing your home is one of the most traumatic events one may face in their lifetime. Buyers often have no concept of what the true ownership costs will be. This can destabilize them financially and lead to numerous other problems.
It would be in the best interest of the buyers themselves, the entire housing market, the professional real estate industry and the U.S. taxpayers to require that all first time home buyers who are qualifying for government insured home mortgages, take a course on home ownership, with the specific purpose of educating the buyer to the real costs involved, and create a realistic budget for a buyer up front, before they choose a home.
Planning for ownership expenses BEFORE you buy a home goes way beyond the interest rate on your mortgage. Understanding the true costs involved, and choosing a home you can afford to pay for and maintain will make you a happy home owner, help to stabilize the housing market and ultimately make it easier for you to build a solid financial future as the years go by.
Donna S. Robinson is a real estate investor, author, and housing market analyst located in Atlanta, GA. Follow her on twitter at donnaconsults. Her latest book is now available on Amazon.com. It's called Basics Of Real Estate Investing