Balancing The Books: Financial Planning for First Time Home Buyers

Balancing The Books: Financial Planning for First Time Home Buyers

Contents Overview 3 The Immediate Need-To-Do Check List 4 The Immediate Financial Outlay: The Down Payment 7 The Mortgage: Major Monthly Expense 8 Post-Purchase Costs 10 Closing Costs 11 The Land Transfer Tax 12 Home Inspections: Absolutely Needed! 13 Moving & Storage Costs 14 Monthly Recurring Costs 16 Benefits of Purchasing Through a VIP 17 Conclusion 18

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Overview Purchasing a home for the first time is no easy decision and the financial implications this decision brings can have a major impact on a buyers' financial capacity. As such, it is important for first time home buyers to evaluate all the major expenses involved with purchasing a home and plan for them accordingly.

In this article, we take a look at the following:

1. Things first time home buyers should do before a house search 2. Indentifying the two major financial outlays: the down payment and the

monthly mortgage payments 3. Evaluating post-purchase costs and their various elements 4. Understanding all the various recurring monthly expenses

The aim of this document is to provide a thorough overview of all elements that will have financial implications on a buyers bottom line.

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The Immediate Need-To-Do Check List

First time home buyers often go into house hunting without first clarifying a few details. We have outlined a list of items that first time home buyers should check, understand and verify to ensure that both their house hunt and the financial implications that follow will all be balanced and worth the effort.

Conduct a Credit Check: Getting a credit check and seeing if a mortgage or owning a home is even possible. This is quite an important step because it saves you the hassle, time and the cost of time running around trying to make home buying a possibility.

Get Pre-Approved: Most folks start deciding long-term plans before even getting a pre-approval. A pre-approval gives an interested home buyer the thumbs up on the mortgage as well as rate they will get when purchasing a home. Before spending countless hours on finding a home or paying any home search fees, see if you are able to get a mortgage at all.

Evaluate Current Financial Situation: It is important for one to reflect on their financial situation. If their monthly expenses are currently tight, putting a mortgage on top of that may not be a very good idea. Lenders will use various calculations to determine how much mortgage you are eligible for, but it’s important to understand your financial situation before going to the home search table.

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Evaluate Long Term Plans: Thinking of starting a family? Have multiple members of the household living under one roof? Need a home office? Multiple cars for long commutes? You need to think about all the long-term implications of living within your new home, at least 4-5 years ahead. By doing so, you are ensuring you do not outgrow your living space too quickly, which will create the need to conduct a home search again. Of course, this must be balanced along with your finances, but it is critical that this is taken into account.

Create an Annual Debt Repayment Plan: Just like any other financial review – investment plan, estate plan, retirement plan or insurance plan – an annual debt repayment plan (which includes your mortgage) review is critical and can help you save thousands of dollars in the long run. Start by gathering all your monthly statements – including your annual mortgage statement (once you figure it out) – to create a consolidated worksheet of all your outstanding debt. Where possible, compare the outstanding balance year-over-year and tally up the total sum of payments made toward each account over the past twelve months. In going through this exercise, you will have a snapshot of how much you currently owe relative to your assets and income, which of course can help you gain some perspective on your overall financial health.

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The Immediate Financial Outlay: The Down Payment

Many interested first time home buyers face the dilemma of having to spend a lot of money upfront for the purchase of a home. This payment, called the down-payment, is an initial expense that must occur for a home buyer to receive a mortgage loan.

A down-payment begins at a minimum of 5% of the cost of the home to around 20-25%, depending on who is providing the property and the requirements of the sale. There are many ways that a down payment can be reduced, up-to or close to the 5% minimum. Mortgage insurance provides the ability to purchase a home for less than 20% down with a mortgage insurance amount payable by the buyer.

It is important to note that a down payment of less than 20% with mortgage insurance and similar programs is applicable to primarily resale homes. For new constructions, especially VIP’s, unless the builder is providing a lower down-payment option, home buyers can expect to pay a 20% down-payment or more, depending on the property.

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The Mortgage: Major Monthly Expense Your mortgage – the loan taken out against your new home, a capital asset – will be your major monthly expense. Getting a mortgage is not simple and does not come without its own complexities. However, first time home buyers should streamline everything they do to ensure that they take into account the various costs involved. Here are a few things to consider:

Mortgage Amortization Period: How fast do you want to pay your mortgage? This is a crucial questions as it dictates your financial outlay over the next few years. Do you wish to sit on it for 25 years or would you like to be an owner within 10? This decision affects how much of your principal you need to pay along with your interest payments.

A mortgage is essentially a debt that must be paid down and first time home buyers should do everything in their capacity to try to pay down this debt as much as possible. Increasing the frequency of payments and/or increasing payments by minute amounts will help pay off your mortgage debt faster. Reducing your overall debt will reduce your monthly financial outlay in the long-run and save you thousands of dollars in interest.

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Open vs. Closed Mortgage: An open mortgage allows you to make payments during any time during the term and even pay off your mortgage before the term without any penalties. A closed mortgage however is a mortgage structure that places a penalty for any changes to a mortgage. The choice is important as it dictates how long you will have to pay mortgage payments as well as what other financial penalties you will have to consider into the financial equation.

Fixed vs. Variable: Fixed interest rate provides you the security of one, stable rate, while variable interest rates fluctuate with the markets. This decision is dependent on your financial situation and how open you are to market changes.

Mortgage Insurance: As we have discussed before, mortgage insurance is a vital financial component for first time home buyers. With the ability to give as little as 5% down, mortgage insurance is a great tool to help with the down payment with a cost spread across a mortgages amortization.

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Post-Purchase Costs

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Closing Costs Closing costs are the severely underestimated by first time home buyers and are often under-budgeted. Closing costs are up-front costs that you must pay after the purchase of your home, typically before you move in. These include appraisal fees, legal fees, title insurance, septic tank tests, water tests, etc.

Home buyers should keep aside between 1% and 3% of the purchase price of the home. Legal fees, for example, are a major variable. Depending on the quote you get, you can be set back thousands of dollars. CIBC recommends that you keep aside between $1,300 to $2,500 for legal fees. It is important that you shop around and not just take the first option you get. Asking your lender to recommend someone is a good start and doing your own research helps as well.

Property tax adjustments can set you back thousands of dollars too. Previous home owners may have prepaid property taxes to the government for the year. If you are to take possession of the home within the year, they will request to reimburse the property taxes for the months you are the owner. Depending on the property value and tax level, this could be very expensive. It is safe to say that between $1,000 and $2,000 should be kept aside for property tax adjustment purposes.

Often, primarily with resale homes, first time home buyers can ask for the closing costs to be included in the deal, which will save home owners thousands of dollars when wrapping up a deal. You should always communicate this with your agent.

Something first time home buyers should consider is the First Time Home Buyer’s Tax Credit. This credit is a non-refundable tax credit that was launched as a part of ‘Canada’s Economic Action Plan’. The credit of $5,000 – applied to one’s personal taxes on line 369 – works out to a rebate of $750, to help with closing costs

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Land Transfer Tax The land transfer tax is a tax you pay to the Government of Ontario when someone buys land or an interest in land in Ontario. You must pay this tax whether or not the transfer is registered at one of Ontario’s land registry office. “Land” includes any buildings, buildings to be constructed, and fixtures (such as light fixtures, built-in appliances and cabinetry). According to the Ontario government, “the land transfer tax payable is normally based on the amount paid for the land, in addition to the amount remaining on any mortgage or debt assumed as part of the arrangement to buy the land.”

It is important to note that first time home buyers can qualify for a refund of the land transfer tax. The following are the requirements of the purchaser to be eligible for the refund (as outlined on the Government of Ontario website):

1. Must be at least 18 years of age. 2. Cannot have previously owned a home, or had any ownership interest in a

home, anywhere in the world, at any time. 3. Spouse – if the purchaser has one – cannot have owned a home, or had any

ownership interest in a home, anywhere in the world, while he or she was the purchaser’s spouse.

4. Application for a refund must be made within 18 months after the date on which the conveyance or disposition occurred.

5. Must occupy the home as his or her principal residence no later than 9 months after the date of the conveyance or disposition.

6. Cannot have previously received an Ontario Home Ownership Savings Plan (OHOSP) based refund of land transfer tax.

7. If the agreement of purchase and sale is entered into before December 14, 2007, the home must be newly constructed.

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Home Inspections: Absolutely Needed! A home inspection is precisely what it means: an inspection of the home to search, identify and evaluate any major problems that could create major issues for home owners.

A home inspection covers, but is not limited to, the following things:

1. Roof structure 2. The basement 3. Heating & air-conditioning system 4. Walls, doors and insulation 5. Plumbing and electrical 6. Drainage system 7. Overall structure & foundation

Home inspections can run anywhere between $300 to $1000, depending on the size of the home, level of inspection and other inspection-related factors. It is important you get a certified home inspector to evaluate your property to the fullest. Certification ensures that the dollar you spend will provide credible, reliable information.

Home purchase finalization can be kept pending based on the results of a home inspection, so ensure that you communicate that with your agent and, as such, with the selling party. You must always do a home inspection before you lock yourself into a house. Last thing you want is to purchase a home and find out it’s a money pit.

Moving & Storage Costs Once you’ve bought a property, the next step is moving in from your old property or rental. Moving costs however aren’t simply “pack and move”. There are many costs involved that first time home buyers need to take into account.

Here's a quick overview of various moving and storage costs:

Packing supplies: To move all your belongings effectively, it’s important to package them properly, not just to protect your stuff but keep things organized. Boxes, package tape, bubble wrap, shrink-wrap and all cost quite a lot of money, creating $100-$200+ of expenses from the get go. Home owners should shop around for supplies. Cardboard boxes can be taken from local grocery or liquor stores. Also, always consider buying from wholesale, bulk outlets, that offer large quantities for a fraction of the cost. Tape and such can be bought in bulk. Moving Vehicle: To move stuff, you got to have something to move with. Hiring a truck can push you back between $30-50 dollars a day if you’re doing the driving. Don’t forget, you may also have to pay insurance on that if not covered by your credit agencies and all the fuel you use to get from point A to B. With that said, you can always just hire a moving company. This however will set you back a couple of hundred, sometimes even $500+, to pay for their man power and what not. Food for thought!

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Cleaning & Restoration Costs: You can’t just leave your old place like a garbage dump and you definitely don’t want to end up at a garbage dump. Cleaning costs may sound like a small cost, but it depends on what you end up doing. Simple spring cleaning will take away a couple of dollars where as painting and such may take away a couple of hundred. Some rental properties require that tenants repair any damages, which can vary on the level of damage.

Moving Utilities and Amenities: Cable TV, telephone, heating, electricity bill, etc. These are all various things you have disconnect or re-assign from your old address to your new one. Some of these services don’t have moving charges, but depending on where you’re moving and the extent of the change, there may be disconnection and re-connection costs involved. Worse come to worse, you may have to cancel services and if you have a contract, that could involve cancellation fees.

Storage Costs: Sometimes you have to move out of your old place before you can move into your new one. This would require you to store many of your belongings in a storage facility or somewhere similar. Storage facilities can cost a lot of money, depending on what services you need (heated storage building, etc). Try to work around storage costs by keeping belongings at a friend’s place or in a rented truck. This way, you save on over-the-top storage expenses that could throw off your budget.

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Monthly Recurring Costs Once all is set and you’ve got your keys, you as the home buyer have the responsibility of managing your monthly and yearly expenses that come with the purchase of a new home. Those expenses include but are not limited to the following:

1. Mortgage payments (an intuitive expense) 2. Property taxes & insurance – property taxes will depend heavily on the value

of your home, while the insurance will depend on what organization you have chosen to purchase insurance from. Shop around and make sure you do comparison’s of benefits and payment options before making a commitment.

3. Renovation costs – for those items that need to be attended to immediately, to make the home livable. Most renovations can be done at the buyers' convenience at a later date.

4. Utilities, including hydro, heating and other need utilities – These monthly costs are intuitive but with careful financial planning, can also be managed. Monitoring the use of electricity, using energy efficient appliances and practices and upgrading the home with energy efficient fittings can all help manage these other bills to reduce your overall monthly costs.

5. Maintenance of a property, including general repairs, electrical, etc – It is important to have maintenance estimate per month to ensure you have budgeted for unforeseen expenses. This helps not only pre-plan your cash flow but also ensure that important maintenance upgrades are done without delay.

6. Landscaping – Done seasonally, landscaping is important in keeping up curb appeal and the general positive look of the home. Planting flowers during the summer and shoveling snow and keeping a clean driveway during the winter are costs that need to be accounted for.

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Benefits of Purchasing Through a VIP A question that always comes up: why should I purchase my first home during the VIP phase of a new construction project? A new construction offers you the benefit of living in a new building, often closer to conveniences such as access to public transit, shopping and much more. In addition, one can capitalize on amenities such as having an indoor pool, gym, 24/hr security, all of which could be expensive in an independent dwelling.

The VIP phase of a new construction offers interested first time home buyers the opportunity to purchase a new home at a much better price than waiting until the project launches, providing access to the best floor plan layouts early. On the flip side, the simple fact is that you are investing money into a project that will likely take a few years to complete, with no real guarantee that it will indeed be finished on time.

It is really dependent on the buyer and urgency of moving into a new home. If you are looking for a condominium construction or community townhouse, a purchase during the VIP phase should definitely be considered as it will likely save you thousands of dollars on the price of the home.

Conclusion With proper financial planning, careful evaluation of all financial elements of home buying and detailed understanding of one’s financial capacity, purchasing a new home as a first time home buyer will not only be an easy experience, but a memorable one as well. It is important that you understand the financial implications of purchasing a new home to ensure long-term stability and security. Last thing you want to do is default on your bills and payments because you can’t balance the books.

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