Buying vs. Renting

Buying vs. Renting

Owning a home used to be a virtual requirement in attaining the so-called American dream. But that was when people drove 2-ton cars, smoked on airplanes and watched live television. Buying is a smart choice for many people, but it isn’t always the best deal, depending on the market where you live and factors such as how long you plan to stay in your home and the size of the home you want to purchase compared to where you’re renting.

Before you commit to buying, factor in the following points:

  • There’s a big initial investment involved. You have to pony up a lot of money when you purchase your house, from the closing costs (roughly 3% of the home’s purchase price) to the down payment itself. Not everyone has that kind of cash to spare.
  • Can you handle the debt? Lenders often look at your debt-to-income ratio: how your mortgage payments and other debts would stack up against your pay. Conventional lenders often use the so-called 28/36 rule when determining whether to offer you a loan. Your house-related payments (mortgages, taxes, insurance) shouldn’t exceed 28% of your pretax income, and all other combined debts shouldn’t exceed 36% of your monthly pretax income. (Much more on this later.)
  • Buying is more expensive than you think. You can’t simply compare your monthly mortgage payment to your monthly rent — these are apples and oranges, particularly when you consider that the place you purchase won’t necessarily be the same size as the place you’re renting. Though you can deduct some of your home-ownership expenses, you’ll have to pay property taxes, homeowner’s insurance, HOA fees and probably mortgage insurance, as well as renovations, maintenance, utilities, and other fees typically covered by a landlord. (You can directly plug numbers into a handy rent-buy calculator from the New York Times.)
  • Buying decreases ease of mobility. In today’s ever-changing job market, very few people can say with certainty that they’ll have the same employer in five years. It’s much easier, and less expensive, to leave a yearlong lease than to sell a home.
  • How hot is your market? Real estate is local and cyclical, so consider whether your area is better suited to renting or buying. If you live in a larger metropolitan area, the Case-Shiller Index is a useful at-a-glance look at how current real estate values where you live compare to historic highs and lows.

Is a home an investment?

Some people would rather put their money toward equity in their property instead of giving it to a landlord. While that math makes sense for many — especially those who plan to stay long enough to pay off their mortgage entirely — nobody can predict whether home prices will rise or fall in a given time frame, so don’t count on your home to be a cash cow.

What to do before you act

If you’re thinking about buying, follow these steps before making your move.

  1. Calculate your current debts, including car loans, credit card payments, and student loans. Remember the 28/36 rule mentioned above.
  2. Consider how much available cash you have. You’ll want enough to at least cover your down payment and closing costs, and don’t forget to leave enough in your bank account to cover any emergencies that might arise.
  3. Make sure you can put enough money down. Traditionally, lenders have required down payments equal to 20% of the home’s purchase price, but special programs allowing down payments as low as 3% are available. (Putting 20% down on a $300,000 home would require $60,000 in the bank — plus an additional $9,000 or so for closing costs.)
  4. Get pre-approved for a loan. Contact a lender to get pre-approved for a mortgage. This doesn’t require you to accept the loan; it’s just a way of showing real estate agents and sellers that you’re serious. One of the first things a prospective agent will ask is whether you’ve been pre-approved, so check off this box early in the process.

Are you better off renting?

Deciding whether to rent or buy is a big decision that requires serious “Where am I now?” and “Where am I going?” sorts of questions. It might be best to keep renting if you want to maintain maximum flexibility for personal or professional reasons, or if jumping into more debt right now takes you out of your comfort zone. Maybe you’re just not ready to face the responsibilities of home-ownership: repairs, upgrades, maintenance, yard-work and all the rest. Even thinking about the difference between cleaning an 800-square-foot apartment and a 2,400-square-foot house can make you want to take a seat and a deep breath.

Your local housing market could be working against you, as well. If you live in a hot market with eager house hunters chasing too few properties, it might be best to bide your time until a better buying opportunity presents itself.

Don’t Put The Cart Before The Horse

Don’t Put The Cart Before The Horse

Today I thought I’d touch on a funky subject – FEES. As an Advisor, I often get asked about fees. So let’s discuss all the different types of fees that are likely built into your typical investment account – and yes, you should be concerned and ask about all of them, always. 1. Expense Ratio or Internal Expenses It costs money to put together a mutual fund. To pay these costs, mutual funds charge operating expenses. The total cost of the fund is expressed as an expense ratio.

  • A fund with an expense ratio of .90% means that for every $1,000 invested, approximately $9 per year will go toward operating expenses.
  • A fund with an expense ratio of 1.60% means that for every $1,000 invested, approximately $16 per year will go toward operating expenses.

The expense ratio is not deducted from your account, rather the investment return you receive is already net of the fees. Example: Think about a mutual fund like a big batch of cookie dough; operating expenses get pinched out of the dough each year. The remaining dough is divided into cookies or shares. The value of each share is slightly less because the fees were already taken out. 2. Investment Management Fees or Investment Advisory Fees Investment management fees are charged as a percentage of the total assets managed. These types of fees can often be at least partially paid with pre-tax or tax-deductible dollars. Example: An investment advisor who charges 1% means that for every $100,000 invested, you will pay $1,000 per year in advisory fees. This fee is most commonly debited from your account each quarter; in this example, it would be $250 per quarter. Many advisors or brokerage firms charge fees much higher than 1% per year. In some cases, they are also using high-fee mutual funds in which case you could be paying total fees of 2% or more. It is typical for smaller accounts to pay higher fees (as much as 1.75%) but if you have a larger portfolio size ($1 Million or more) and are paying advisory fees in excess of 1% then you better be getting additional services including, aside from investment management. These might include comprehensive financial planning, tax planning, estate planning, budgeting assistance, etc. 3. Transaction Fee Many brokerage accounts charge a transaction fee each time an order to buy or sell a mutual fund or stock is placed. These fees can range from $7.95 per trade to over $50 per trade. If you are investing small amounts of money, or your advisor is “churning” over your portfolio, these fees add up quickly. Example: A $50 transaction fee on a $5,000 investment is 1%. A $50 transaction fee on $50,000 is only .10%, which is minimal. 4. Front-End Load In addition to the ongoing operating expenses,  an “A share” mutual fund charges a front-end load, or commission. Example: If you were to buy a fund that has a front-end load of 5%, it works like this: You buy shares at $10 per share, but the very next day your shares are only worth $9.50 because 50 cents per share was charged as a front-end load. 5. Back-End Load or Surrender Charge In addition to the ongoing operating expenses, “B Share” mutual funds charge a back-end load or surrender charge. A back-end load is charged at the time you sell your fund. This fee usually decreases for each successive year you own the fund. Example: The fund may charge you a 5% back-end load if you sell it in year one, a 4% fee if sold in year two, a 3% fee if sold in year three, and so on. Variable annuities and index annuities often have hefty surrender charges. This is because these products often pay large commissions up front to the people selling them. If you cash out of the product early the insurance company has to have a way to get back the commissions they already paid. If you own the product long enough, the insurance company recoups its marketing costs over time. This the surrender fee decreases over time. 6.  Annual Account Fee or Custodian Fee Brokerage accounts and mutual fund accounts may charge an annual account fee, which can range from $25 – $90 per year. In the case of retirement accounts such as IRA’s, there is usually an annual custodian fee, which covers the IRS reporting that is required on these types of accounts. This fee typically ranges from $10- $50 per year. Many firms will also charge an account closing fee if you terminate the account. Closing fees may range from $25 – $150 per account. Most of the time if you are working with a financial advisor that charges a percentage of assets these annual account fees are waived.   A few notes on fees (and my personal opinion): People should worry more about value received rather than amount paid in fees. For instance, if your target portfolio return is 10% and you invest in a private equity fund which returns 90%, of which the manager keeps 80% – you get 10%. Who cares what the manager made? Are there cheaper investment options on there? Sure! But you chose this one and this one got you to your goal. Additionally, if you still have a financial advisor who ONLY advises you on investments – what are you actually doing? Go out and find someone who can offer you comprehensive financial planning. Many times, they will actually be saving you money on fees and in many other ways as well. I often say that I save my clients more money than I make them which is what keeps them wealthy!

How to Pick a Financial Advisor

How to Pick a Financial Advisor

Pretty sure most writers on this topic would have started here. But hey… better late than never?

 

I thought it would be helpful and important to put together a list of things to look out for, questions to ask, and information you should know before actually signing the agreement:

  1. The main question you should ask is if the advisor is obligated to live up to a “Fiduciary Standard” this means that they would be legally obligated to do what’s in your best interest… and be able to prove that that’s what they’re doing. The other type of standard that is common is the “Suitability Standard” which basically means as long as they can convince someone that whatever investments they recommended or put you in were suitable for you.. they’re fine. Basically, it’s horse sh*t… and very low and easy standard to meet.
  2. Ask about the qualifications of the advisor. In many large banking institutions, the only thing an advisor needs in order to work with clients is the passing of the Series 7 exam. While it’s a great exam for learning about options, it is not a great qualifier for being able to provide sound financial advice. I’ve seen several advisors unable to answer basic tax and estate planning questions because they simply aren’t qualified to do so and don’t have adequate knowledge. They can plug numbers into a financial software and generate an analysis that shows you’re 80% or 90% likely to achieve X amount of growth, but they can’t explain to you what those numbers actually mean to your life. Make sure they themselves or someone on their team has a CFP® (CERTIFIED FINANCIAL PLANNER PROFESSIONAL) designation on their team. Or a CPWA or a ChFC or a JD or something that goes beyond just what they need to be able to sell you things.
  3. Have them do a full financial planning analysis of EVERYTHING you have in your life before you agree to sign on with them. Make sure they’re able to discuss with you implications of your current investments/lack of investments going forward – ask about changes in the next 5,10,20, 30+ years. If you are unwilling to share information with someone and they want to bring you on anyway – that’s a huge red flag.
  4. A good advisor will not give out advice without knowing about everything going on in your financial life. They should ask about your banking accounts, investment accounts, retirement accounts, your family life, your goals, how much you spend, how much you’d like to spend, charitable inclinations, your estate plan – wills, trusts, power of attorney, your benefits from your job, social security – anything and everything that touches your financial life. If they don’t ask for these things.. walk away.
  5. If an advisor proposes a portfolio to you, ask detailed questions about what’s in it. Make sure you understand the TOTAL fees that will be charged to you. Oftentimes, aside from the management fees the advisor will charge you, there are also transactions fees, fund fees, marketing fees, and etc. Make sure you know what you’re paying because it will be charged from your portfolio. Ask questions related to changes that will be made once you hit certain life markers. What will change once you have kids? What will change when your kids go off to college? What will change once you retire? If the answers are really vague or that nothing will change… that’s a sign to walk away as well. A portfolio should change with changes that happen in your life.
  6. (This may be the most important of them all) Make sure the person feels good to you. I fully believe that the best people to work with are people you like. People you’d go out to dinner with. People you’d trust with your kids. Because ultimately, by handing over your assets to be managed by someone – that’s what you’re doing.. you’re trusting them with everything you have and your kids’ futures.. so if you don’t feel comfortable being in their office or they intimidate you in any way, don’t work with them.

I know that trusting someone with your assets is really difficult- especially in the post- 2008/2009 world. But just asking a few questions and really understanding what you’re signing up for can save a lot of heartache down the line. A good advisor will be ready, excited, and willing to educate you as much as they possibly can in order to give you comfort.

An advisor that just says “Trust me, I know this, and everything will be okay” is the biggest red flag out there.