Spending More Money Saves Money?

November 9th, 2015

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Does spending more money in the short run save more money in the long run? That may be the case with real estate. When you consider the transaction costs involved in buying and selling real estate, you need to be thinking that you are buying something that you’ll love and will want to stay in, for as long as possible, to avoid repeating the transaction costs too many times over in your life. Let’s make some assumptions below to show you what I mean.

  1. Let’s assume you’ll own five homes over your lifetime. I know that may vary quite a bit, but let’s just use that assumption to make an illustration.
  2. Depending on the state you live in, it typically costs at least 2% of the sales price in closing costs to the state/county/city, title and escrow company, lender, appraiser, etc. Sometimes that figure is as much as 3% of the sales price. We’ll use an average of those figures of 2.5%.
  3. It will cost you 6% of the sales price to pay the realtors to sell the home when it’s time to sell.
  4. And depending on what state you live in there are often transfer taxes to pay as a seller to sell the home that can be anywhere from 0% to 1.5%, so we’ll use an average of 0.75%.
  5. This gives us an average of 9.25% in transaction costs to buy and sell one home.

I know sometimes one may sell a home and pay less than a 6% commission to a realtor, or they may sell their home as a for sale by owner, or they may live in a state with 0% transfer taxes. But I just wanted to get an average percentage to make the case in this one illustration to get you thinking. You will have to tailor these numbers above and below to your actual expected scenario.

It is also important to realize that homebuyers need to be able to qualify for each purchase they may consider and that one cannot arbitrarily buy at a more expensive price point simply because they agree that buying fewer homes over their lifetime saves transaction costs. Sometimes you buy a home at a certain price point out of necessity and financial limits. But I have noticed in many of my client’s purchases, and even my own home purchases, the thought process is that buying under one’s means will save money. But maybe it doesn’t.

Next, let’s make some assumptions on the five hypothetical purchases, over 45 years, from age 25 – 70. I’ll have to use varying interest rate assumptions as rates do vary over time, and I’ll use varying down payment assumptions as people have different cash down payments available at different points in their life. And I am going to assume the last house owned in this hypothetical scenario gets sold at some point, maybe before our hypothetical couple moves into assisted living.

Purchase #1 (years 1-5)

  • 1st time homebuyer purchases a small condo, feels they can only afford this much. $175,000 sales price. 95% financing, 6.00% 30 Year Fixed Rate:
  • $166,250 loan amount @ 6% = $997/month
  • $150/month property taxes
  • $86/month Private Mortgage Insurance
  • $200/month condo fee
  • $40/month homeowners insurance
  • $1473/month total mortgage payment

Purchase #2 (years 6-10)

  • Move-up purchase, buyer wants more square footage, buys a townhouse for $275,000. 90% financing, 5.00% 30 Year Fixed Rate:
  • $247,500 loan amount @ 5% = $1329/month
  • $185/month property taxes
  • $91/month Private Mortgage Insurance
  • $100/month HOA fee
  • $70/month homeowners insurance
  • $1775/month total mortgage payment

Purchase #3 (years 11-20)

  • Buyer marries, now wants a house with a yard for family, and buys a house for $450,000. 80% financing, 4.00% 30 Year Fixed Rate:
  • $360,000 loan amount @ 4% = $1719/month
  • $385/month property taxes
  • $0/month Private Mortgage Insurance
  • $0/month HOA fee
  • $90/month homeowners insurance
  • $2194/month total mortgage payment

Purchase #4 (years 21-35)

  • Buyers want a better neighborhood, closer to work, with a nicer level of finish, and more square footage for growing family, buys a $700,000 house. $200,000 down payment. 4.25% 30 Year Fixed rate:
  • $500,000 loan amount @ 4.25% = $2460/month
  • $580/month property taxes
  • $0/month Private Mortgage Insurance
  • $0/month HOA fee
  • $130/month homeowners insurance
  • $3170/month total mortgage payment

Purchase #5 (years 36 – 45)

  • Buyers retire, downsize to a $400,000 condo. Pays cash for property.
  • $0 loan amount = $0/month mortgage payment
  • $300/month property taxes
  • $0/month Private Mortgage Insurance
  • $400/month HOA fee
  • $60/month homeowners insurance
  • $760/month total payment

If this buyer would have bought the townhouse at first, assuming they could have qualified for it, and then waited until they could have bought the more expensive house, and then downsized to their retirement home, let’s see if there would have been savings by only purchasing three homes instead of five.

Using the 9.25% average transaction cost we came up with above, let’s apply this figure to the two scenarios we are discussing:

Purchasing five homes = $2,000,000 in total purchase price which is $185,000 in transaction costs.

Purchasing three homes = $1,230,000 in total purchase price (see below) which is $113,775 in transaction costs.

This saves $71,225 in transaction costs.

The monthly payments in each scenario are:

Purchasing five homes = $1,119,960 in total monthly payments.

And to be fair in this assessment, in purchasing three homes you would likely not be building the equity in the same way at each stage so the down payments and subsequent financing and monthly payments would be different. Hence, I want to make a different set of assumptions for the scenario where only three homes are purchased:

Purchase #1 (years 1-10)

  • 1st time homebuyer purchases a townhouse and skips over the condo purchase they were considering, feels they can stretch to a $260,000 purchase price. 95% financing, 6.00% 30 Year Fixed Rate:
  • $247,000 loan amount @ 6% = $1481/month
  • $210/month property taxes
  • $129/month Private Mortgage Insurance
  • $90/month HOA fee
  • $70/month homeowners insurance
  • $1980/month total mortgage payment

Purchase #2 (years 11-30)

  • Buyers have been married, they decide they now want a house with a yard for family, buys a house for $550,000. 80% financing, 4.00% 30 Year Fixed Rate:
  • $440,000 loan amount @ 4% = $2100/month
  • $420/month property taxes
  • $0/month Private Mortgage Insurance
  • $0/month HOA fee
  • $100/month homeowners insurance
  • $2620/month total mortgage payment

Purchase #3 (years 31-45)

  • Buyers retire, downsize to a $370,000 condo. Pays cash for property.
  • $0 loan amount = $0/month mortgage payment
  • $280/month property taxes
  • $0/month Private Mortgage Insurance
  • $380/month HOA fee
  • $55/month homeowners insurance
  • $715/month total payment

Purchasing three homes = $955,100 in total monthly payments.

So the three home purchase scenario saves $124,860 in monthly payments over the five home purchase in this 45-year span of time, and it saves $71,225 in transaction costs. The total savings is $196,085, which is a significant sum of money.

This whole lengthy exercise can be summed up in one sentence: don’t be shortsighted and think that spending less automatically saves you money, because over time it may not.

I am not suggesting you reach for the stars and blow your budget every time you purchase a home.  But I am suggesting that you think more carefully about what neighborhood, square footage, and style of home will be suitable for you as well as make you happy and cause you to move less frequently in life, which as you can tell may save you quite a sum of money over time.

You can apply today, no obligation. That allows you to find out what rate you might qualify for and how much home you can afford right now.

Brian Martucci is a loan officer for Capital Bank Mortgage, a division of Capital Bank. He has been in the mortgage industry since 1986 and has served in a number of roles, including loan processor, loan officer, mortgage broker, branch manager, and vice president. Brian Martucci – NMLS# 185421. His opinions do not necessarily reflect the opinions and beliefs of Capital Bank Mortgage or Capital Bank. Capital Bank, N.A.- NMLS# 401599. Click here for the Capital Bank, N.A. “Privacy Policy”.

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