Is Your Dream Home a Model Home or a Fixer-upper?
When people decide that they’re going to buy a home to live in, they tend to look for the best house they can find. This is understandable, since you obviously don’t want to live in a house that has a giant hole in the roof.
But many people will purchase a house solely because it’s a certain color or the front door is a certain way. When given the choice between a house that someone might consider ‘perfect’ or a house that is $100,000 less and most likely simply needs new shingles (I’m not talking about a damaged roof, just an ugly one) and a new coat of paint, most people would automatically choose the ‘perfect’ house. They overlook the ‘ugly’ one.
This is really a terrible mistake. A house that is already the best and most expensive on the block can, for the most part, only go down in value relative to the other houses. On the other hand, the worst house on the block can only go up in value.
It’s true that when you buy a home to live in, you are probably not thinking of the resale value, you just want a pretty house. But what if you want to get a second mortgage to pay for something? Your business? Your child’s college tuition? You want as much equity in your house as possible to borrow against.
Also, if you consider that the ugly house with an initial lower value will have a lower mortgage payment, you may find the prospect of living in a house that needs some work somewhat more appealing. This is especially true if you realize that every $100,000 on a mortgage with 6% interest is worth roughly $600 per month; more at higher interest rates.
With the lower mortgage payment of an ‘ugly’ house, you can pay for $5,000 in repairs and touch up work in approximately a year or less. After that, you’re looking at ‘free’ money, since you ended up with a much lower payment while getting almost exactly the same house.
But let’s go even further. For illustration purposes (I know most houses cost much more than these figures), we’ll assume that you can afford a $200,000 mortgage at 6% interest. But, instead of going for that, you go for the ugly house with a $100,000 mortgage at 6% interest. After you’ve done whatever repair work needs to be done, if you faithfully pay the $100,000 mortgage as if it were $200,000 (paying $1,200 per month instead of the minimum $600), you will pay off your house in approximately 10 years vs. the 30 it would normally take! If you pay off a $200,000 mortgage as if it were a $300,000 mortgage, then you would own your house free and clear in less than 15 years.
Of course, this does not count any prepayment penalties, but you should still end up paying much less this way than if you spend the entire 30 years paying off your loan. A $100,000 mortgage with a $600 payment per month means you would pay more $200,000 over 30 years. If you pay it off in 10 years, you’ve only spent approximately $130,000. And if you had a $200,000 mortgage with a $1,200 payment per month, you would pay over $400,000 in 30 years. If you paid it off in around15 years, you’d spend less than $300,000. Obviously, the faster you pay off your mortgage, the more money you save.
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By now, I’m sure you can agree that going with a house that needs a little work makes sound financial sense. But if you don’t, let’s look at yet another aspect.
Even if you love the most expensive house on the block, chances are you are going to want to remodel. Maybe not now, but those kitchen cabinets will start to annoy you or the bathroom sink starts looking a bit worn. If you’re living in a house with the high mortgage payment, you’re just adding more bills to pay. If you’re living in a house with a payment less than the maximum that you can afford, you’re going to have much more money available for this remodeling.
You’ll be able to get exactly what you want; for less, or not much more, than you would spend if you were paying off that more expensive mortgage.
Isn’t that worth living for a couple weeks with the peeling paint of a house that needs work?