Sunday, February 03, 2008

Making Money in Real Estate #2

Ok, you're making some money, you've saved some money, and you've got some credit. Here comes the next step - MY FIRST HOME PURCHASE.

If you're renting, you should look into buying yourself your own pad. Of course, there are a ton of variables here, but what if the rent you're paying could just be a mortgage payment and you own the place? If you're making decent cash, then the interest that you pay on each monthly mortgage payment (which is most of the payment) becomes tax deductible. So, the net effect is you're paying less taxes and you can adjust your withholdings with your employer to receive a bigger paycheck (in anticipation of paying less taxes). So, rent of $1,000/ month could be comparable to a mortgage of $1,300-$1,400/month (this depends on your tax bracket, etc - an accountant can run numbers for you).

I was commuting to work (1.5 hour drive each way) for about a year while I saved some cash. I then bought my first house at age 26, this was 8 years ago. I bought a house close to work, which was a requirement for me, being in IT, and having to run to the office for every goddamn computer glitch. I bought the shittiest house on the best street/neighborhood I could find. The house cost $225,000 - it was 950 square feet in Redondo Beach. I had to come up with 10%, which was like $23,000. I chose to buy a house, rather than condo/townhouse because there's no homeowners association fee (HOA) monthly payment with a house, and I own the land + house, not just the house. I thought this would end up meaning greater appreciation in the property (house vs condo/townhouse), which is still usually the case but not always (so don't limit yourself).

I would recommend an 80-10-10 loan. What this means is that you come up with the 10% down payment, borrow another 10% for the down payment, and then borrow the 80%. You'll end up with a 1st and 2nd mortgage. But by borrowing that extra 10%, you'll avoid paying Mortgage Insurance (which you MUST pay if you put down less than 20% of the purchase price). Mortgage Insurance is not tax deductible, but the interest on the payments on your second mortgage (which is 10% of the purchase price) IS tax deductible. This is usually a better way to go.

Now, for those of you who are commitment phobic, buying a home is not signing a contract with the devil. Don't feel you're trapped or restricted. A year lease at some apartment can be just as big a commitment. I owned this first house for LESS THAN ONE YEAR. This property appreciated from from $225,000 to $280,000 in less than one year. Sure, I had to pay taxes on the short-term gain, but I was able to offset the gains by improvements, etc to reduce that tax payment.

In the end, I made money on this place, lived in my own house and enjoyed it, and the appreciation in that property would set me up to invest in my next house...

BTW - if you invest in a 401k at your work, you can utilize that money to put down on your FIRST home purchase - without the monster penalty of an early withdrawal!!! This is a worthwhile endeavor if you've already invested in that 401k (talk to an accountant!).