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Calculating Your Total Housing Expense

To determine your total housing expense, you must first determine what your monthly Principal, Interest, Tax, and Insurance costs will be. You must also choose the type of loan you will be receiving from the lending institution. Lastly, you must remember that you must factor your closing costs and down payment into your calculations.

Determine Your PITI
Your mortgage payment is made up of four different items: principal, interest, taxes, and insurance or PITI. We will discuss each of these in the reverse order so that you have an understanding of them.

Insurance
Every lender requires that you carry Homeowners insurance. This covers the replacement value of your dwelling in case of fire, vandalism, natural disaster, or a host of other potential mishaps. It is common practice for the primary lender to be named on the policy. The pricing of Homeowners insurance varies, but usually costs approximately $350 per year, per $100,000 of property value (your Todd Sandler Realtors agent can help you to determine an exact amount). Because the primary lender is at risk for the value of the house, and will commonly not want to take the risk of your homeowners insurance being cancelled, most lending institutions will have you make the insurance payments directly to them and they, in turn, will pay your insurance company.

Taxes
As with insurance, taxes vary from community to community. You will have to research the tax history of the town that you are looking into and apply the tax to the approximate value of the house. Tax rates are expressed in mills. A mill is one-tenth of a cent. It is the rate that you pay for every thousand dollars worth of property. For example, if your town's mill rate was 25 and you owned a $100,000 house, you would pay $2,500 in property taxes. This is calculated by multiplying 100 (the number of thousand dollars of your house) by the mill rate. A local Todd Sandler Realtors representative can help you determine what the tax amount will be.

Interest
A lending institution provides you a loan with interest. Interest is the extra amount of money that you pay to the lending institution as a fee for the privilege of using their money. Interest rates fluctuate up and down constantly. There are primarily two types of mortgage plans offered by lenders today: fixed rate and variable rate. A fixed rate plan locks you in at an interest rate and that rate never changes. An adjustable rate mortgage (ARM) has an interest rate that fluctuates with the marketplace. Interest plays a large factor in the overall amount that you will ultimately pay. Always remember that the same loan from different banks with the same interest rate does not always mean that you will pay the same amount of money. This is because the fees that lenders charge can vary tremendously. So, it is important to shop not only interest rates, but also annual percentage rates (APRs). The APR takes the lenders fees into consideration and will be discussed in further detail below.

Principal
Principal is the actual amount that you currently owe the lending institution at any given time, and also refers to the amount of each monthly payment that is applied directly to paying off the loan. In either case, Principal is affected greatly by the term of the mortgage. This is the amount of time needed to pay off the loan. The breakdown of principal and interest amounts change throughout the life of the loan. Interest normally makes up the greater portion of the monthly payment when a loan first starts, and principal makes up the greater portion of the monthly payment toward the end of the loan. The next section shows just how the length of the mortgage affects the monthly payment and the bottom line as well.

Pick A Mortgage
Loans made on property are commonly called mortgages. When picking a mortgage, the key items to keep your eye on are: the term of the mortgage (how many years you will take to repay the principal), and the interest rate (the percentage you will pay on the principal while you're repaying the loan). Most loans are amortized over a thirty year period. This means that the loan has to be paid off in thirty years. For those who prefer to have a shorter loan, there are fifteen year mortgages and twenty year mortgages available as well. These loans carry a heftier monthly payment than the thirty year mortgage but a lower monthly interest rate. However, if you can afford the extra cost, you can build equity faster with a shorter mortgage term. You can see the effect that the length of the mortgage has on the bottom line by looking at the following example:

     15yr    20yr    30yr
Cost of the House   $100,000   $100,000   $100,000
Interest Rate (Fixed)   8%   8.25%   8.5%
Number of Payments   180   240   360
Monthly Payment   $955.65   $852.07   $768.91

As you can see, the length of the loan plays a great factor in exactly how much money you have to pay out. If you can afford a higher monthly payment, you pay substantially less money by the end of the loan. In addition to the term of the loan, mortgages differ by type. There are fixed rate mortgages and adjustable rate mortgages (ARMs).

Fixed Rate Mortgage
A fixed rate mortgage locks you in at the interest rate that is available at the time of the loan. Many people prefer a fixed rate because they know how much their mortgage payment will be throughout the life of the mortgage. However, a fixed rate may not be a good option if you are buying at a time of high interest rates. You will never be able to take advantage in the reduction of interest rates. On the flip side, the rates will fluctuate throughout the life of the mortgage and - unless you can see the future - you will never know which plan offers better rates through the life of the mortgage.

Adjustable Rate Mortgage
An adjustable rate mortgage fluctuates with changes in interest rates. An adjustable rate allows your interest rate to change with the market. An adjustable rate mortgage normally has a much lower initial interest rate than the fixed rate. That rate difference can be as much as four percent. By using an ARM, you can also qualify for a higher mortgage due to the difference in interest rates. However, ARMs have their drawbacks. The most obvious is the strain that it puts on your financial planning situation. It is impossible to foresee how the interest rates will rise and fall for such a long period of time.

Graduated Mortgage Payments
This mortgage has an initial interest rate that is lower than that of a fixed rate mortgage. However, the interest rate increases throughout the life of the mortgage. These increases are defined at the time of the inception and financial planning can be done around these increases.

Other Costs
In determining your total housing expense, make sure to factor the down payment and the closing costs into the equation to determine your total housing expense:

The Down Payment
In addition to the mortgage, you must also put money aside for a down payment. The larger the down payment, the less the monthly payment is on the mortgage and the less you will pay in interest costs over the life of the mortgage. This amount can range from 20 percent down to nothing.v
The Closing Costs
These costs can range anywhere from $2,000 to over $10,000. The fees include but are not limited to:

Loan origination fee     
Appraisal fee    
Credit report    
Lender's inspection fee    
Mortgage insurance application fee    
First interest payment    
Mortgage insurance premium    
Property insurance premium    
Title insurance    
Survey fee    


Your Todd Sandler Realtors agent can help determine what your closing costs will probably be, and work with the seller and your loan officer to pin the exact number down when you have chosen a home.

Comparing Renting to Owning
Is buying a house the right thing to do at this stage in your life? Many people have the perception that home ownership is much more expensive than renting. What you may not realize is that for the price of renting, you can probably own your own home. It may not be the Castle of Versailles, but it will be a home you can call your own. A home that can build equity and a secure future. In most cases, your home will be your single biggest asset with tax advantages that you couldn't take advantage of while renting.

For instance, if you own a house, the government allows you to deduct mortgage interest and real estate taxes from your gross income amount through a "Schedule A" tax form. This means you will pay less tax to Uncle Sam if you own a home. Recent tax laws also state that first-time home buyers can use money from an IRA (Individual Retirement Account) for the down payment on their new home. Let's look at an example that will compare the tax benefits you would receive from owning a house rather then renting.

EXAMPLE: A married couple has a combined gross income of $70,000 per year. They have some money in a savings account and an IRA totaling $25,000. The couple cannot decide whether they want to purchase a home or stay in their current apartment. Their current rent is pretty cheap at $700 a month. They know that owning a house costs more than that. But does it?

The couple is looking at a house that is priced at $125,000. Because of the new tax laws that allow you to utilize money from IRAs, the couple has enough to cover a twenty percent down payment (smaller down payments are also available - for more information visit the our Web Page titled Establish your Down Payment).

After the down payment, the mortgage comes out to $100,000. On a mortgage of $100,000, the couple's monthly mortgage payment is $900 (principal + interest). Because the interest is always higher at the start of a mortgage, the split of the $900 comes to $800 in interest and $100 in principal. Using the "Schedule A" tax form, the $800 a month will be tax deductible. The property taxes equal $2,500 a year, and you can deduct those costs from your taxes as well.

Renting Scenario       Buying Scenario
Gross Income     $70,000   Gross Income     $70,000
Current Rent     $700   Mortgage Payment     $900
Total Paid Per Year     $8,400   Total Paid Per Year     $10,800


Here's where the accounting comes in. The renting scenario uses your basic tax form where the buying scenario using a "Schedule A" Form. Let's play the example out factoring in the tax advantages.

      Renting Scenario       Buying Scenario
Gross Income   $70,000   $70,000
Yearly Mortgage Interest   $0   $9,600
Property Taxes   $0   $2,500
Deductible Withholding Taxes   $0   $4,165
Taxable Income   $70,000   $52,800
Taxable Income After Other Standard Deductions   $58,200   $48,635
Income Tax Paid   $11,090   $8,402


If you divide the $2,688 of tax savings into twelve months, you determine a tax savings of approximately $224 per month. Subtract the $224 from the $900 mortgage payment and you get an adjusted total of $676.

While the $700 per month apartment originally appeared to cost less than the $900 per month house, factoring in $2,688 of tax savings shows that building equity by owning your own home can actually cost less per month than renting a property you will never own.

For more details on the financial advantages of home ownership, contact one of Todd Sandler Realtors's agents. At Todd Sandler Realtors, your satisfaction is our most valued asset.

Todd A. Sandler, Inc., REALTORS
536 N. Main St. (Rt. 28)
Randolph, MA  02368
(781) 961-1185