Home Savings vs Retirement Savings

[DaveNineFive]

I just turned 25, and my goal is to at least have the option to retire comfortably by 45 or 50 (with an awful lot of fun in between). I'm trying to figure out the best way to distribute my savings, and any advice would be greatly appreciated!

At the moment I'm putting almost every dollar I can into cash savings towards a down payment on a home (the only exception is that I'm putting enough in my 401k to get my company match). By July I'll have about $30k, which would be about 10% down in my area (Chicago).

So here's my question: should I continue to put every dime I can towards that down payment until I could put 20% down (I estimate that'd be around $60k and would take another 1.5 years), or should I spread the cash around? Right now I'm planning to hit my $30k goal and then change over to:

-10% 401k contribution (plus 4% company match)
-Max out my Roth IRA
-Continue to save about $10,000 per year towards a home

I'm looking at the 401k and Roth IRA to be the vast majority of my retirement savings when I hit that 45-50 mark (from what I understand I'll be able to make regular deductions from the 401k before I turn 65).

Is it more important to buy a home ASAP, start getting money into retirement investments, or a mix of both?

 

[Lusitan]

Just my opinion ...

I'd max out the Roth and 401(k) first, and then save the remainder for a down payment on a home.

As your earnings increase you'll be able to pick up steam and increase your savings for the down payment, but the tax-favored retirement plans limit annual contributions so you won't be able to make up for lost time in those accounts (at least not until you hit 50 and get the ability to make "catch up contributions ... but clearly that's not in your plans!).

Not to mention that with stocks likely entering a bear market it's a great time for a young investor to start saving as much as possible. And the housing market looks like it will continue to sink or at least remain flat (thus sinking in real dollar terms) for the next few years, so it's not a bad idea to take it slow when it comes to buying a house.

Also - not sure what your situation is or what type of home you're looking at, but maybe you can look at buying a smaller place for your first home.

Just my two-cents.

 

[W2R]

"Any of the above" might be a good answer, and would put you ahead of the vast majority of people your age.

I like your plan to contribute enough to your 401K to get the match, which is important. I also like your plan to max out your Roth. In my opinion you should do these things for 2008, and all following years, and save as much as you can beyond that for a house.

I have no idea of what the housing market is like in Chicago, or will be like in a few years should you need to sell. You might be able to get quite a bargain. But will it seem like a bargain 5-10 years from now, should you need to sell? Who knows. I also have no idea of how much moving around the country might be necessary for your occupation. It seems like a lot of people end up getting transferred somewhere else, or have to take a new job every few years to get a decent raise.

 

[ziggy29]

First of all, get all the 401K match and max out the Roth. There's no reason NOT to fund the Roth because you can always withdraw *contributions* (not earnings) tax-free and penalty-free if you find THE right house before you have the full 20% down payment in savings. I don't normally like tapping a Roth, but if the ability to do so convinces you that it's better than just putting the money in savings and *not* funding the Roth, so be it.

 

[brewer12345]

And although I generally am not enthused with the idea, you could buy a house with less than 20% down if you have strong credit, although it would likely require PMI.

 

[DaveNineFive]

Thanks for the responses, guys - your advice on taking it slower with the house purchase does make a lot of sense (it is hard when I'm dumping money into rent, though). Unfortunately, $250-$300k is pretty close to the minimum you can spend on a condo in a decent neighborhood in Chicago (I don't even think about getting a house), so a cheaper "starter home" isn't an option right now. I'm not planning on buying a place until I feel like I can stay there for at least a few years, and I have to believe the housing market here will show gains in that time (it's just too crowded to stay down for long).

Also very good point about this being a good time to invest in the market, Lusitan. I had the same thought (and that I may have been lucky to not be putting as much money in the market for the past year). I'll definitely be investing a lot more no matter what I do (including maxing my Roth IRA, Ziggy). It seems you all agree I should increase my contributions to my 401k and Roth IRA, then keep on plugging away at the down payment at a lower rate.

 

[DaveNineFive]

I guess that's at the root of my question, Brewer - I do have good credit, and could almost certainly swing a second mortgage or PMI. Is getting into a home early important enough that I should go to such lengths? Or is it wiser for me to slow down my down payment savings, and wait a few more years?

 

[ziggy29]

I guess that's at the root of my question, Brewer - I do have good credit, and could almost certainly swing a second mortgage or PMI. Is getting into a home early important enough that I should go to such lengths? Or is it wiser for me to slow down my down payment savings, and wait a few more years?

IMO, unless you found the perfect home in the perfect neighborhood at a favorable price, I'd wait until you could avoid PMI (or a second). The wild card is not knowing what housing prices will do in the next five years or so. Yeah, the next few months to a year is pretty easy to call, but beyond that? Who knows.

I think in overheated markets of a few years ago when prices were rising 20-30% a year or more, people felt more urgency to get their feet in the door while they could. I'm not sure that's going to be a winning strategy for a while.

 

[jIMOh]

I just turned 25, and my goal is to at least have the option to retire comfortably by 45 or 50 (with an awful lot of fun in between). I'm trying to figure out the best way to distribute my savings, and any advice would be greatly appreciated!

At the moment I'm putting almost every dollar I can into cash savings towards a down payment on a home (the only exception is that I'm putting enough in my 401k to get my company match). By July I'll have about $30k, which would be about 10% down in my area (Chicago).

So here's my question: should I continue to put every dime I can towards that down payment until I could put 20% down (I estimate that'd be around $60k and would take another 1.5 years), or should I spread the cash around? Right now I'm planning to hit my $30k goal and then change over to:

-10% 401k contribution (plus 4% company match)
-Max out my Roth IRA
-Continue to save about $10,000 per year towards a home

I'm looking at the 401k and Roth IRA to be the vast majority of my retirement savings when I hit that 45-50 mark (from what I understand I'll be able to make regular deductions from the 401k before I turn 65).

Is it more important to buy a home ASAP, start getting money into retirement investments, or a mix of both?

I would change the question. I would ask about cash flow.

What do you pay in rent?
What will house cost?
What will payment be with 10% down (look into an 80-10-10 loan and avoid PMI)?
What will payment be with 20% down?
What will payment be with 30% down?

My suggestion is to get the house and keep a similar cash flow to what you have now.

In 18 months (when you will have 20% down), if 80-10-10 looks attractive, and the interest rate on the 10% second mortgage is less than 6.5%, you might do better with investing 10% and putting 10% down, than by putting all 20% down.

 

[jIMOh]

Originally Posted by DaveNineFive
I guess that's at the root of my question, Brewer - I do have good credit, and could almost certainly swing a second mortgage or PMI. Is getting into a home early important enough that I should go to such lengths? Or is it wiser for me to slow down my down payment savings, and wait a few more years?

IMO, unless you found the perfect home in the perfect neighborhood at a favorable price, I'd wait until you could avoid PMI (or a second). The wild card is not knowing what housing prices will do in the next five years or so. Yeah, the next few months to a year is pretty easy to call, but beyond that? Who knows.

I think in overheated markets of a few years ago when prices were rising 20-30% a year or more, people felt more urgency to get their feet in the door while they could. I'm not sure that's going to be a winning strategy for a while.

Disagree with the response. Without knowing the tax bracket, rent payment or cash flow of OP, this advice could be misguided.

If his rent is the same as a condo payment with 0% down, why not buy with 0% down? Less risk on part of OP (he puts little of his money up, and possible owns a 200k condo in the end).

That being said, I think 80-10-10 is better. Better interest rate, some equity and paid off sooner.

The interest paid early on will greatly reduce tax burden as well. Maybe to tune of freeing up $400/month. My house/ mortgage deduction is freeing me up $700/month right now ($8400/year). Granted I could have a smaller house and not free up as much, but there is a clear tax advantage OP will get if he does buy now based on the interest deduction. This assumes the house payment, interest included, is similar to the cost of renting.

 

[Bestwifeever]

Congrats on being fiscally responsible at your age!

You probably have already considered these costs but remember there will be taxes (quite high in city of Chicago) and condo fees and special condo assessments to add to the mortgage payments--the more you can put down to avoid PMI and also have smaller mortgage payments, the easier the other costs will be to pay each month.

 

[armor99]

I guess that's at the root of my question, Brewer - I do have good credit, and could almost certainly swing a second mortgage or PMI. Is getting into a home early important enough that I should go to such lengths? Or is it wiser for me to slow down my down payment savings, and wait a few more years?

I was in your situation not too long ago. The interest rates were the lowest in 40yrs right around 2003 which is when I bought my house. That was just before the real estate market went crazy (on the upswing side). That 5.5% interest (30 yr. fixed) rate is what finally pushed me over the edge to buy my home. I calculated that the purchase price of the home could go up 10-20k and would still not make as much difference as the interest rate going up by a few tenths of a point. That 30 years has a big effect on the monthly payment.
As for PMI, I bought my place with 10% down. That means that I wound up spending around $100 a month just in PMI. That PMI does not go towards interest or principle... just pure profit for the insurance company. Now there is a scam if I ever heard one... At any rate, if you do choose to do the PMI thing... inquire carefully about the conditions of the loan that allows you to petition for the removal of PMI. The terms of my loan stated that I needed to wait a minimum of two years, never have missed a single payment during that time, and that the house value has appriciated to the 20% mark. This is basically saying that if I defaulted in two years, the house with the increased equity was now up to the 20% of the original value. (Hmm... hope I explained that right, I am sure someone will correct me if I used the wrong terminology). Two years after my home purchase with the market appreciating like it was... it was fairly easy to get the PMI removed. But understand that you have to keep after them about it, and some places will give you the run around for a while. Fortunately Countrywide was upfront in dealing with me.

 

[ziggy29]

Disagree with the response. Without knowing the tax bracket, rent payment or cash flow of OP, this advice could be misguided.

Disagree all you want. I think recent events have shown the dangers of buying with very little equity. It's very possible the OP would do better with PMI or something like an 80/10/10, but it also looks like the OP's income is high enough that being careful might add 1-2 lousy years to the timeline.

And yes, I bought my first house in San Jose in 1997 with an 80/15/5. I was lucky in that the property appreciated enough that within 18 months I had an 80% LTV refinance and eliminated the second. But if I did that in 2006 instead of 1997, I would have been royally screwed.

 

[virginia]

Dave - I agree with a couple of the other posters. Fund the Roth and 401k up to the point of match. So it sounds like, from your previous post, you're already funding the 401k to point of match, and only need to fund the Roth - so a little over $400/month. The rest of your free money could go into the house fund. Depending on how much you make and how fast you could get up to 20% in the house (eliminating PMI) - that's how I would decide when to buy. If, after funding the Roth and 401k, it will still take years to get 20% in - honestly, that depends on how you feel. PMI is really a waste of money. What I would do is talk to friends and realtors in your area. If Chicago is like the area in which I live, you probably have a good year or so (possibly more) to find a home at a reasonable price - what I don't know, and nobody does - is how long interest rates will stay this low - and as another poster mentioned - that will save you lots in the long run.
What you're doing (thinking long term) is the right thing. Don't rush into anything because someone like me said interest rates might go up. Chances are, they aren't going to skyrocket anytime so and even the 7% range is not a bad deal.

 

[jazz4cash]

Is PMI deductible these days? I know is was not when I bought my first home, but seem to recall they made it deductible <recently>. My reaction to the question of to pay or not to pay is always "how much does it cost?" I think I paid 3/8% additional interest rate, which was not so bad, but I think it is sometimes charged as an annual fee. I was more concerned that lender would agree to relieve the PMI requirement when i had reached 20% equity (esp in a market like this). An 80/10/10 would give homeowner more control.

 

[jIMOh]

Disagree all you want. I think recent events have shown the dangers of buying with very little equity. It's very possible the OP would do better with PMI or something like an 80/10/10, but it also looks like the OP's income is high enough that being careful might add 1-2 lousy years to the timeline.

And yes, I bought my first house in San Jose in 1997 with an 80/15/5. I was lucky in that the property appreciated enough that within 18 months I had an 80% LTV refinance and eliminated the second. But if I did that in 2006 instead of 1997, I would have been royally screwed.

If you do an 85-15-5 or anything with less than 20% down, the risk is on the bank, not the borrower.

The current situation we are in is because of the risks the banks took, and that they lent to people with bad credit at low rates. It has little to do with 80-10-10 loans.

 

[virginia]

I found this in an article at Lending Tree.com about PMI being tax deductible.

"Who benefits from tax deduction?
If you and your spouse file a joint tax return and have adjusted gross income (AGI) of no more than $100,000 or if you file an individual tax return and have AGI of no more than $50,000, you may be able to deduct 100 percent of the PMI you paid in 2007. You'll need to itemize your tax deductions to take advantage of this benefit.

There is no cap on the amount of paid PMI that you can deduct; however, the deduction is reduced by 10 percent for each additional $1,000 of AGI. That means if you and your spouse file a joint tax return and have AGI of $100,000 to $110,000 or if you file an individual return and have AGI of $50,000 to $55,000, you may be able to take a partial deduction.

The deduction is allowed for both purchase-money and refinance mortgages, but there is a gray area as to whether PMI paid for the cash-out portion of a refinance would be deductible. If you obtain a refinance loan with cash out and PMI in 2007, you'll need to consult a tax professional for advice.

Your lender or loan servicer might report the annual amount of PMI you paid to you on the same year-end form that's used to report annual mortgage interest or another form. This report is required only if the total PMI is more than $600."

To me that sounds like paying people back for not paying enough down and encouraging them to not put more principal into their homes. But that's what the government has encouraged a lot of - spending, not saving, so I guess it's not surprising to see there's a PMI allowance.

 

[myself]

I agree with jIMOh.

Looking at your cash flow is very important. Try and plan it out so that you can still put at least 10% of your income away, and not pay more (or very little more) for a mortgage.
That is, unless you can save up to pay cash for a house, in the area that you live in (but then again, at $10k/yr, a $200k house would take 20 years).

In our case, our property taxes & mortgage are only amounting to providing us with about $200/month less tax than we would have if we took the standard deduction. For us, having 4 kids is actually helping us much more, since each child is a $1,000 tax credit.

 

[myself]

I just turned 25, and my goal is to at least have the option to retire comfortably by 45 or 50 (with an awful lot of fun in between). I'm trying to figure out the best way to distribute my savings, and any advice would be greatly appreciated!

At the moment I'm putting almost every dollar I can into cash savings towards a down payment on a home (the only exception is that I'm putting enough in my 401k to get my company match). By July I'll have about $30k, which would be about 10% down in my area (Chicago).

So here's my question: should I continue to put every dime I can towards that down payment until I could put 20% down (I estimate that'd be around $60k and would take another 1.5 years), or should I spread the cash around? Right now I'm planning to hit my $30k goal and then change over to:

-10% 401k contribution (plus 4% company match)
-Max out my Roth IRA
-Continue to save about $10,000 per year towards a home

I'm looking at the 401k and Roth IRA to be the vast majority of my retirement savings when I hit that 45-50 mark (from what I understand I'll be able to make regular deductions from the 401k before I turn 65).

Is it more important to buy a home ASAP, start getting money into retirement investments, or a mix of both?

And something else to consider. Every $1,000 you save towards down payment on a house now, is about $55 less in your monthly payment that is going towards interest (well, OK that's assuming a 5.5% interest rate on the mortgage).

 

[brewer12345]

I guess that's at the root of my question, Brewer - I do have good credit, and could almost certainly swing a second mortgage or PMI. Is getting into a home early important enough that I should go to such lengths? Or is it wiser for me to slow down my down payment savings, and wait a few more years?

I generally don't think this is a financial question, especially in a flaccid housing market. What this really hinges on is two things: what are the relative costs of buying vs. renting, and where do you want to live.

On the first point, when we bought our first home in 1998, I figured out that the interest plus the condo fees and RE taxes were less than it would cost to rent (with the tax deduction as a bonus). So in that situation, buying was close to a no-brainer. I would suggest you do the math on this one.

On the second point, it really depends on your prefernces and needs. I have two dogs, a cat and two small children, so I strongly prefer to own regardless of what the relative costs are. You m ight strongly prefer to rent for a while if you expect to live a more transient lifestyle. Once you know what you need/want, decinding on how much money the trade off is worth is a little easier to figure.

 

[lucija]

As far as OP's original question goes... I agree completely with Lusitan...

Just my opinion ...

I'd max out the Roth and 401(k) first, and then save the remainder for a down payment on a home.

As your earnings increase you'll be able to pick up steam and increase your savings for the down payment, but the tax-favored retirement plans limit annual contributions so you won't be able to make up for lost time in those accounts (at least not until you hit 50 and get the ability to make "catch up contributions ... but clearly that's not in your plans!).

Not to mention that with stocks likely entering a bear market it's a great time for a young investor to start saving as much as possible. And the housing market looks like it will continue to sink or at least remain flat (thus sinking in real dollar terms) for the next few years, so it's not a bad idea to take it slow when it comes to buying a house.

Also - not sure what your situation is or what type of home you're looking at, but maybe you can look at buying a smaller place for your first home.

Just my two-cents.

Also, I did not get a sense you can't wait to own a place... why rush into ownership? A condo/house will come along with additional demands on your wallet and time (maitenance, repairs, improvement, cond fees, RE tax, etc.)

 

[DaveNineFive]

Thanks again to everyone for the input. I was curious if everyone would highly encourage buy immediately, or if I'm alright renting for a few more years. I've been told by some [-]older[/-] wiser relatives and friends that they wish they'd bought a home young. But they do not share the goals of FI and RE, so I think they're coming from a different perspective.

I also don't like living in the city, and I'd much rather buy a home a few miles out (or perhaps find a different place altogether). It would have been an option to buy now and sell in a couple of years, but all of you have confirmed my initial gut feeling, and I'm going to focus on my 401k and Roth IRA for the time being. I'll continue putting some cash aside to buy a home in 2-5 years instead of rushing into it now.

Thanks again! Love this forum!

 

[Lusitan]

Sounds like a good plan, Dave. And by the way, you're off to a great start so just keep doing what you're doing.

 

[seabourne]

Chicago thoughts

A couple of thoughts from a 29yrold in Chicago who bought a little over a year ago:

1)if you think that you don't want to stay in the city for more than a couple of years, don't buy here. just don't. Rule of thumb is that staying less than about 7 years in a place you are better off renting, and that would be an average market. Are you betting that the Chicago market is going to strongly bounce back before you plan to move out? Living in a new condo (Uptown) I wouldn't take that bet. there are a lot of good deals out there compared to a couple of years ago that probably make sense longterm, but the friction costs would kill you.

2) are you comfortable renting in a place that isn't as nice as the one that you would buy? I rented in a studio for 3 years or so and a friend's second bedroom for another year for about $700 a month. I would never have been willing to buy the studio I was living in, but was happy to stay there (disclaimer: I have a habit of living on old wooden boats - old small slightly dirty places are no problem for me) for the ability to save the difference. I live in amuch nicer place now because of that.

3) you are currently flexible. you don't know exactly where outside the city you want to buy. Use your ability to rent to explore. Take a metra line out from your office and see where it lands you. Would you be happy there? if yes or maybe, rent there for a year. on the ground and talking to neighbors is also a lot more likely to help you find exactly the place and price that you want to buy rather than trying to swoop in from the city to look and buy in a short period of time.

4) max your Roth. as noted, you can use your contributions. nuff said.

 

[podey]

I am going through the same dilemma about saving for a house/apartment, although mine is a little different. My dilemma is between paying back student loans at 5.62% or putting money in an account now paying 4.88% to save for the down payment. The spread's not that big but I hate "losing money" by not paying down the student debt first. However, I realize I have to save so I am funneling 90% of the money towards the down payment. This is of course after maxing out company 401k and all (can't do a Roth).