rocket finance

Don’t use your house to pay for your life

My financial story is not particularly unique, however I believe that many people, especially young people in their 20’s who are contemplating marriage or have just graduated from college can benefit from reading it. I put myself and my family into a great deal of financial trouble because of a lack of knowledge and some carelessness. Today and over the next week, rocket finance will be focusing on real estate finance, the true cost of home ownership and real estate debt. My story will serve as the jumping off point for tomorrow’s post: Home Finance: Mortgages and the Real Cost of Home Ownership that will include links to many posts authored by some of the more familiar names in the personal finance blogging world. Please stop back for a look.

Here is my story:

During our first year and a half of marriage, my wife and I made $43,000 per year and had no housing expenses. We were able to save almost $15,000 during this time. Looking back, I can’t believe that we didn’t save more. Our life was not extravagant, but we did not go out of our way to exercise frugality. We did not deny ourselves anything that we really wanted. After that first year with no housing costs, we decided to purchase a small starter home. We were expecting our first child and conventional wisdom dictated that home ownership was the “best investment you can make” and renting “is pouring money down the drain”.

Our first home needed a great deal of work, but I have some ability in that area and we thought we could handle any household upgrades that were necessary. Later on I realized that renovation does not just require time – it also requires cash. Our first home cost $76,900. It does not seem like much, but for us it was a big investment. We put $7,700 as a down payment, paid $2,800 in closing costs and ended up with a loan of $72,000 at 7.25% – not too bad.

Our first born arrived seven months after we moved in and my wife stayed home to care for the child. My job situation also changed and our household income sank to $24,000 a year. However, we were still not on a budget and we did not reduce our spending. Our yearly expenses continued on a pace of about $35K a year. Our debt began to increase – but gradually – we didn’t notice at first and it was disguised by 0% credit cards, tax refunds and a refinance.

Interest rates decreased and we refinanced our mortgage in order to install new windows in our home and pay for a new car. This mortgage was at 6.75% for 30 years on $85,000. We also rolled the closing costs into the loan.

Less than a year later, interest rates continued to plummet and I realized that we could improve our rate even more! So I refinanced again – our third mortgage in three years! We took very little cash out, but once again we rolled our closing costs into the loan. We got a great rate, 4.85% – a three year ARM or adjustable rate mortgage. Our base loan amount was now up to $86,000, but we assumed that we would sell the house well before the ARM was up.

The best laid plans. . .

It is now 2006, and our credit card debt was piling up. We also desperately need a new roof, a hot water heater and a host of other things. . . but the roof was the most urgent need. I figured that our house was worth about $110,000 and we had paid our mortgage down to about $82,000. Our credit card debt was close to $15,000 and the roof was going to cost around $12,000, so I tried to get a home equity loan for $30,000. No problem, the mortgage company wrote the check and we found ourselves with $30K HELOC at 10%, a new roof and no credit card debt. . . at least on the surface.

This is a long post. But if there is someone out there who is starting down this path. . . I hope to offer a warning.

In 2007 our ARM reset to 6.75% and our payment jumped well over $100 a month. At the time, it looked like interest rates would continue to rise, I was desperate to lock in our rate – so I refinanced again. We presently owe $111,000 in two loans. That makes four mortgages and two HELOC’s on the same house in six years. Our broker estimated our house value at $123,000 in order to make the new mortgage and HELOC work. I was a little surprised by the estimated house value, but I wanted the money and didn’t question it. Later on, after I secured the loans, I had an independent market analysis done on our home that put it’s value at $107,000 – and this was before the housing market slow down. (By the way, that mortgage broker is now out of business. . . )

We are slowly working our way out of our debt. Unfortunately we have a much longer and harder road as a result of a careless attitude toward our finances and especially our mortgage debt. If you are in the housing market, I encourage you to get as much advice as you can from people you trust. If you want to run your situation by me – I would be happy to trade emails with you through my contact form on this page. In the meantime, here are a few things that I have learned:

• Always offer less if you are convinced that the house is overpriced. Don’t be afraid to trust your instincts. Our broker talked us out of offering less than the asking price by saying that someone else might jump in front of us. We allowed ourselves to be pressured into paying more than we thought the house was worth.

• The broker works for the seller, not the buyer – no matter how nice he or she is.

• Don’t be in a hurry when purchasing a home, they are making more houses every day.

• Home maintenance and remodeling can be expensive, even when you do the work yourself.

• Closing costs are expensive, don’t ignore their effect when considering the cost of a new loan. Five to seven thousand dollars of our current debt is due to closing costs alone.

• Be very careful in getting cash out when refinancing. The cost of that money will set you back farther than you want to be.

• Your house might not be worth what your broker says it is. Just because they are willing to give you money does not mean that it is a good idea.

• Avoid a home equity line of credit unless you are sure that it will greatly enhance the value of your home.

Be sure to check back tomorrow for Home Finance: Mortgages and the Real Cost of Home Ownership.