All about down payments and mortgage requirements

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It’s exciting to buy your first home, but act responsibly when it comes to making this purchase:

  • Live within your means.
  • Don’t get yourself into risky or untenable situations when it comes to choosing a home or taking out a loan.
  • Do not assume the value of the property will increase.
  • Do not assume you will be able to “flip” the home in a few years for massive profits.

Most people need to take out a mortgage to buy their first home. Typically, they’ll bring a down payment for a small percentage of the purchase price in addition to meeting the other mortgage requirements. On a $100,000 home, it might be $20,000.

Where do you get the money for the down payment? If you’ve followed my earlier advice in this guide to establish a special savings account for emergencies or other special situations, you can use this money for the down payment. A lot of people get help from relatives, or sell other liquid assets, such as stocks and bonds.

The remaining $80,000 will be paid for using a mortgage, which is essentially a large amount of money loaned to you by a bank. You pay back a small amount of money to the bank every month over many years.

Mortgages have to be paid back in monthly installments over 15, 20, or 30 years. The monthly payments are usually equal (exceptions include adjustable rate mortgages), and include principal as well as interest that the bank charges.

The size of the monthly payment depends on the amount of the loan, the length of the mortgage (also known as the “term”), and the interest rate offered by the bank at the time the mortgage started. Here’s how a $200,000, 30-year mortgage at a fixed 6% interest rate breaks down:

Monthly principal and interest payments: $1,199

Annual principal and interest: $14,389

Total interest over 30 years: $231,676

Total payments over 30 years: $231,676 + $200,000 = $431,676

The principal declines gradually over 30 years, until the mortgage is paid off:

$200,000 mortgage example - payments over 30 yearsIf you feel the interest rate is too high, you can apply points to the mortgage. Points are a method of lowering the interest rate in exchange for an upfront payment. You might pay a few thousand dollars for 1 point, which will drop the interest rate a full percentage point. This lets you lower your monthly payments, but you’ll have to deal with the upfront cost of “buying” the points at the closing.

Regardless of the interest rate and the length of the term, you’ll also need to pay so-called closing costs (translation: expensive fees) to seal the deal. Lawyers and appraisers need to be paid. There are “origination” fees, fees to make adjustments or filings relating to the deed, etc. These can vary a lot from bank to bank, from just a few thousand dollars to more than $10,000. Shop around and ask about the closing costs associated with a particular mortgage product. Some banks allow you to fold most closing costs into the mortgage, which is one way to reduce the pain.

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Tips for buying your first home

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Buying your first home means dealing with bankers, real estate agents, and real estate lawyers. There are often elaborate rituals around negotiating a price, and then closing the deal. I won’t go into detail here, because there can be a tremendous amount of variation depending on the state or locality, and whether or not the market is active. But there are some basic steps that everyone should take:

  • Know the area you are moving to. Once you have narrowed down the list of communities you are interested in relocating to, find friends or colleagues who have purchased a home in the same areas in the past few years. Ask them about the pros and cons of the communities, as well as local market conditions.
  • Find a trustworthy real estate lawyer. Schedule a short meeting or phone call to introduce yourself and see if you feel comfortable with the lawyer before commissioning him or her to represent you at closing. Use the opportunity to ask some questions about the processes involved with purchasing a home and sealing the deal, such as closing costs.
  • Don’t jump at the first property you see. Attend as many open houses or showings as possible to understand what’s available and how sellers are pricing their homes.
  • Be honest with yourself (and your partner) about what you like and don’t like about each property you see. Don’t assume that you can fix something or you’ll “get used to it” later on.
  • Identify potential problems that may not be apparent during the open house. For instance, if a neighboring property operates a dog kennel on one side, and a fleet of school busses is based in the big parking lot on the other side, you can expect noise from barking, back-up alarms, and idling engines. If the property is near wetlands, mosquitoes or other critters might be an issue.
  • During the negotiation process, try to moderate or eliminate time pressures, which tend to work against your interests. In a hot market, this may be difficult, and there are some deadlines that cannot be changed (such as the closing date, the expiration of a purchase agreement, or the “lock-in” period of a mortgage rate).

Tips for buying your first homeOn this last point, time pressures can lead people to make big mistakes. As you are reading this, a real estate agent somewhere in America is telling a prospective buyer, “You better get your offer in by tomorrow, before someone else takes it! We had a lot of interest at the open house.” Regardless of whether the statement is true or false, it encourages premature bids and higher prices.

However, you can fight the pressure, and take other steps that give you more breathing room or a chance to find the right home for you and your family.

For instance, let’s say you are renting and want to buy your first home. If you have a lease that expires on May 31, don’t assume that you have to close on a new home by then. Ask your landlord to extend the lease on a monthly basis (perhaps for a slightly higher rent), or consider moving into temporary housing until you can find a great home that’s right for you.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 2, by Ian Lamont. All rights reserved.

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Tips to deal with financial emergencies

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What if a financial emergency, crisis, or sudden need requires more cash than you have available in your savings account? It could be a large medical expense not covered by your health insurance plan, a large down payment on a house, or an extended period of unemployment.

You may be tempted to simply turn to your credit cards to make up the difference. While credit cards may help temporarily bridge the gap in a financial emergency, they are not a long-term crutch. In fact, turning to credit cards can lead to a new crisis, as high-interest debt turns into a monster that can’t be paid down.

What can you do once the special savings account runs out? There may be no magic solution, but there are ways to make the problem more manageable:

  • Talk with trusted friends or relatives, with the goal of eliciting fresh ideas about how best to deal with the emergency. They may come up with an alternate approach that lowers the overall cost.
  • See if the source of the cost (hospital, bank, etc.) is willing to accept an alternate payment plan. For instance, if a large down payment is required, is there any way to reduce it? Or, if you have just been billed for a $30,000 hospital procedure not covered by insurance, will the hospital allow you to work out an installment plan to pay it off? If the answer is yes, watch for special conditions, fees, or excessive interest.
  • Immediately come up with a plan to cut your expenses. Start with the flexible expenses that are nice to have, but are not absolutely necessary. Personal Finance For Beginners In 30 Minutes, Vol. 1 explained how opting for cheaper phones, cable TV service, and cars can potentially save thousands of dollars every year.
  • Start selling stuff. Furniture, antiques, jewelry, musical instruments, and collectibles may be hard to let go of, but they can provide cash in a pinch. Try to establish the fair market value for the items and your target prices before talking with potential buyers.
  • Consider radical approaches, including rethinking your housing and transportation requirements. For instance, renting out property, downsizing living arrangements, or shifting from cars to public transportation can make a huge impact on annual spending.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 2, by Ian Lamont. All rights reserved.

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What are assets?

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Your house, the cash you have in your checking account, the car in your driveway, the oak table in your dining room, the pair of running shoes in your closet, and the phone in your pocket are all considered “assets.”

However, when it comes to personal finances, assets typically refer to big-ticket items — houses, cars, boats, rental properties, precious metals, bank accounts, retirement accounts, etc. (the accounting definition is different.)

Your running shoes, beer steins, old Madonna albums, and a football with Tom Brady’s autograph may hold great personal value, but they may not be worth much on the open market. Indeed, they may be hard to value, much less convert to cash. Other assets may have cost tens or even hundreds of thousands of dollars (a college diploma) but cannot be converted back to cash.

Major assets such as homes, vehicles, land, savings accounts, stocks, bonds, and other equities can be used to calculate a person’s net worth. Banks and other financial institutions may use this information to determine how much you can borrow, if you’re applying for a mortgage or home equity line of credit (more on that later).

Assets example: A home or personal property

In addition, for certain assets, you may have only a partial ownership. A house is a typical example. Unless you’ve bought it outright, or until you have paid off your mortgage, you only have a limited amount of equity in the property. For instance, “I have 30% equity in my condo” or “I have $100,000 worth of equity in my house” reveals the amount you have paid for. The remainder is still owned by the bank.

What if you don’t have any assets beyond that beer stein collection or a copy of Madonna’s Vogue in mint condition? That’s OK … this book is written for people who want to build up their assets, and improve their long-term financial health.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Volume 1:
How to cut expenses, reduce debt, and better align spending & priorities
.

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Should I use Quicken, Mint, or other software to manage personal finances?

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Quicken, Mint, Check, and other services offer the ability to aggregate and track all of your financial and spending information in one place.

The basic idea behind these services is similar. After registering, provide the login details for various accounts — banking, credit card, loans, bills, etc. The software connects to these accounts, downloads the data, and adds everything up. It makes it a lot easier to manage personal finances. The software interfaces can display the following data:

  • Total cash available, across all accounts
  • Total credit available
  • Monthly budgets and expenditures, by category
  • Investment performance (stocks, mutual funds, retirement accounts, etc.)
  • Alerts (for instance, a spike in spending in a certain category, or an upcoming bill)
  • Advanced features such as investment analysis and online payments

If you complete the setup process and link up all of your primary bank, credit card, and financial services accounts, these tools can provide some fascinating insights into your assets, investments, and spending levels. One of the most eye-opening pieces of information for me was a chart on Mint.com that showed my overall assets, including the total value of my house and retirement accounts.

But the services have some fundamental differences:

Quicken vs Mint vs Check

(Note: Mint.com is now owned by Intuit, which also sells Quicken as well as other financial software packages including TurboTax and Quickbooks.)

Many people would choose one of the free money management tools. However, there are a lot of people who will gladly pay for Quicken because it is PC-based software. Data you enter into Quicken is not uploaded to the Internet. This means users have more control over their data, and feel reassured that all of their sensitive personal and financial information won’t reside on a remote server or in the cloud.

In addition, users of Mint and Check have reported issues with third-party bank and billing accounts that may become inaccessible or fail to update. Being unable to access certain data makes for flawed planning and analysis. For instance, how can you accurately track and plan for debt reduction if you can’t connect to all of your credit card accounts?

Lastly, the services can be complicated. Besides the hassles associated with connecting all of your accounts, setting up budgets, targets, and alerts is a lengthy process. Some people have complained that the tools aren’t flexible enough to handle real-world budgeting or planning situations that might be thrown off by an emergency or unexpected expense.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 1, by Ian Lamont. All rights reserved.

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Example of a really dumb password

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Well, maybe it’s not that dumb, but it is certainly a problem. Jordan has made a grave mistake in the password that she uses for her email, social media accounts, online banking, Amazon, and every other online and mobile service that she has signed up for. Here’s the password:

JM071987

Jordan thinks this is a great password. It’s easy to remember, has a mix of letters and numbers, and looks kind of “random” to anyone who happens to see it. She thinks it’s a lot smarter than some of the other passwords that people use, like “password123” or the names of pets and children.

It’s actually a dumb password. The letters and numbers aren’t random at all — they are Jordan’s initials and the month and year of her birth. Someone who knows her could guess it, and smart hackers who know her name (easily found on Facebook) could apply various techniques to figure out her password.

Dumb password example gives hackers keys to the castle

Don’t give up the keys to the castle with dumb password choices!

There’s another big problem with Jordan’s password. Not only is it easy to guess, she uses it on every website and mobile app she has registered for. This means if someone guesses or steals her password for one service, they have the keys to the castle for every other service she uses, including critical services such as email and bank accounts.

What should Jordan do? As a first step, she should immediately change all of her important passwords. Here are some criteria that she could apply when choosing new passwords:

  • Each account that contains personal or important data should have a unique password. The same goes for four-digit personal identification numbers (PINs).
  • Don’t use first or last names, initials, or common words — especially “password” — this is a dumb password that gets lots of people in trouble!
  • Don’t use repeated or consecutive numbers (“123456” or “8888”).
  • Include a mix of letters (upper and lower case) as well as numbers and (if allowed) symbols.
  • If asked to create answers to security questions, avoid questions which have answers that can be easily found out, such as place of birth, elementary school, or mother’s maiden name.
  • Leave a backup email address or a mobile phone number, which can help with password recovery.
  • Change passwords regularly.
  • Store passwords in a secure place (not on a piece of paper in a desk drawer!)

Dumb passwords and two-factor identification

Anyone who is serious about account security should also use “two-factor identification” when it is offered. If enabled, when someone tries to log on to the account from an unrecognized device or location, that person will not only have to enter the password, they will also have to enter a code that’s sent to the mobile phone associated with the account. It is a bit of an inconvenience, but it makes it extremely difficult for hackers or scheming ex-boyfriends or girlfriends to access email or social media accounts.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 1, by Ian Lamont. All rights reserved.

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How credit ratings agencies “score” you

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A credit report is a document that grades you on your ability to pay your bill. The credit ratings agencies that provide the reports — Experian, TransUnion, and Equifax — gather information from the credit card companies, mortgage lenders, department stores, utilities, and other firms that have provided credit to you in the past. The information they gather is aggregated into what’s called a FICO score, a number between 350 and 850 that reflects your creditworthiness.

People with lower FICO scores are considered less likely to pay their bills. Mortgage, credit card, telecommunications companies and even some utilities may reject their applications, or may charge higher rates and fees.

Among the population at large, relatively few have terrible credit card scores. The following table shows the distribution of FICO scores among people evaluated by one of the credit rating agencies, TransUnion. More than 50% have a FICO score above 700:

Transunion credit ratings agency

How to get a free credit report

Typically, when you apply for a new credit card or mortgage, or want to rent an apartment, the bank, lender, or landlord will run a credit report on you. They want to know if you are likely to pay on time and pay off any debt that you incur.

Wouldn’t it be great to see your credit report? It would allow you to understand your credit profile from the view of banks and other issuers, and identify any potential problems that need to be addressed.

Here’s some good news: You can see your credit report, and it’s free, thanks to federal law. Go to the government-operated website usa.gov and look for the links that direct you to an external site that is the only official location to request reports from the three big agencies. Note that the free reports show many details about your credit history, but do not show your credit score — that is only available for a fee.

Once you get your report, check it carefully. If you see mistakes such as incorrect information about a dispute, unpaid accounts that you never opened, or other people (and their debt) being associated with you, there are processes for having this information removed.

Be on the lookout for situations that might indicate identity theft. You will need to resolve any case of fraud that is wrongly associated with your identity. Further, there are rights you have as a consumer — check out the ftc.gov website to learn more.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 1, by Ian Lamont. All rights reserved.

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How to cut utility costs: My 10% solution

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The following post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 1, by Ian Lamont. All rights reserved.

When it comes to saving on other types of utility bills, the experts tend to get into home improvement projects such as adding insulation to your attic, installing double-glazed windows or energy-efficient heating systems, or caulking every last crack and crevice.

That’s great if you are handy with tools or happen to be on a first-name basis with the staff of your local hardware store. But for the rest of us, I advise a much simpler approach that I call the 10% Solution. Here’s how it works:

  1. Determine the sources of spending on electricity, gas, heating, air conditioning, and hot water.
  2. Reduce consumption by 10%.

That’s it. Find those things in your house that consume energy, and then cut consumption by just 10%. For example:

  • If you usually take a 10-minute shower, cut it down to 9 minutes.
  • Reset your thermostat to be a little warmer in summer, and a little cooler in winter.
  • If you have a programmable thermostat, set the air conditioning and heating systems to power down a little earlier than usual. For instance, in the winter, we set our home’s internal temperature to drop after 10 pm when we are in bed and under the covers. We program the thermostat to increase the temperature by 4 degrees the next morning before we get out of bed.
  • Check your hot water heater’s default temperature and drop it by a few degrees.
  • When it’s time to replace lightbulbs, get slightly lower-wattage bulbs or energy-efficient alternatives.
  • Conserve energy in the kitchen, especially when using the stovetop or heating hot water (microwaving hot water or using a British-style electric kettle are not only faster, they are much more efficient than using a gas or electric range to boil water).

Nest thermostat cut utility costsTaking slightly shorter showers, turning down the A/C by a few degrees, or making other tweaks to the ways in which you use energy are hardly noticeable. But they can save hundreds of dollars per year in power, gas, oil, and other energy costs.

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Internet bundles are not as cheap as you think

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The following post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 1, by Ian Lamont. All rights reserved.

Home Internet service is a necessity for most people. Internet service providers and cable companies know this. To get you to pay more, they offer “Internet bundles” that combine Internet, phone, and cable TV. If you only want one of these services, the price is steep — at least $50 or $60 (and sometimes more, if there is no local competition).

Let’s do the math on an Internet plan that does not include phone or television:

Monthly rate: $60

Cable modem rental: $8

Total monthly cost: $68

Annual cost: $68 x 12 months = $816

The bundles may seem like a deal — just $99 per month for all three! That’s not much more than paying for one service at a time, right?

Not so fast. There’s a catch with these bundles. Actually, there are several catches:

  • “Equipment, installation, taxes and fees are extra.” These fees are unavoidable, and bump up the price well over $100 per month.
  • The basic bundle seldom includes everything you want, particularly when it comes to cable television channels. Even local broadcast television channels may not be included!
  • Internet speeds may be limited.
  • Phone service may be limited to local lines; out-of-state area codes cost extra.
  • The rate does not include the cost of renting a cable modem
  • Rates increase regularly — sometimes as much as $15 per year

All of a sudden, the $99 bundle costs $140 per month to get to the service levels you want for Internet, phone, and cable TV. Let’s do the math:

Annual cost, first year: $140 x 12 months = $1,680

That’s not all. The price of the monthly bundle usually jumps after 12 months, and sometimes jumps again after 24 months. I saw one $89 per month bundle that includes Internet, cable TV, and a few premium channels rise to more than $200 after 2 years. Here’s how the bill breaks down when the customer starts paying full price:

Monthly cost for cable TV: $90

Monthly cost for high-speed Internet: $70

Monthly cost for premium channel package: $25

Additional monthly taxes, fees, modem rental, and other charges: $20

Total monthly cost: $205

Annual cost: $205 × 12 months = $2,460

But there are ways to save serious money.

  • Get your own cable modem if you are handy with computers. They cost $20 to $30, and you will have to install and configure it yourself. Savings: $60 in the first year, nearly $100 per year thereafter.
  • Don’t get extra cable channels beyond the basic service. You will be able to get premium programming through your Internet connection using Netflix, Hulu, Amazon Prime, and other services.
  • Negotiate with the ISP or cable company. In the past, I’ve asked for and received discounts from telecom providers. The best time to do this is when you have a better offer in hand and the original contract (typically 2 years) is over.

The other item you should consider getting on your own is a wireless router, which will allow you to set up Wi-Fi. These devices are small and connect to the cable modem. Unfortunately, they can be tricky to set up, but at least they are cheap — the one I have cost just $20 from Amazon.

Wireless routers cost

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Volume 1:
How to cut expenses, reduce debt, and better align spending & priorities
.

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PayPal vs Dwolla

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Paypal vs Dwolla, pros and cons

If you use eBay or have paid someone over the Internet, you’re probably familiar with PayPal. The basic PayPal service lets people pay another PayPal account holder almost instantly. It’s an alternative to paying someone by check, or via cash.

The setup for PayPal and alternative services such as Dwolla is straightforward:

  • Enter your bank account information
  • Wait a few days for the accounts to be connected
  • Confirm that several small electronic funds transfers have taken place — typically a few pennies are deposited into your bank account, which verifies to PayPal, Dwolla, or competing services that the account is yours.
  • Transfer some of your bank funds to the PayPal or Dwolla account. You will be able to use these funds to pay other people who have an account with the same service.

The services have different fee structures:

  • PayPal transfers between private parties are supposed to be free, but business-related transactions are charged a fee that totals about 3% of the transaction.
  • Dwolla doesn’t charge anything for basic transfers, but has fee-based services for priority support and other features.

The services are convenient, and I have used both PayPal and Dwolla for my business. However, there are definite drawbacks:

  • Each service requires both the sending and receiving parties to have active accounts with the same service, and connected bank accounts. This means if you want to pay someone right away, and they don’t have an account, it will take that person at least three or four days to get the account set up and connected with his or her bank. In that time, you could easily write and send a check.
  • Although the services are supposed to be easy to set up, many people have trouble getting their bank accounts connected or performing other basic functions.
  • Because online payment systems have been abused by fraudsters and organized crime, these companies are often overzealous about sudden, unexplained flows of money. PayPal is notorious for freezing legitimate accounts and making it nearly impossible to quickly access frozen funds.

Many people have understandable qualms about trusting their bank information to a Web-based service that will store the data remotely. Conceivably, a lot of money can be instantly lost if passwords and other credentials are stolen.

There are other alternative payment systems (including new virtual currencies like Bitcoin) as well as traditional money transmission services such as Western Union. While these services have features that some people may find useful, they also come with risk and other drawbacks.

This post was excerpted from Personal Finance For Beginners In 30 Minutes, Vol. 1, by Ian Lamont. All rights reserved.

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