It is often frustrating for people to navigate the mortgage origination process. Many consumers simply follow the crowd and take on the longest term mortgage available. In actuality, mortgage consumers have a lot of choices when shopping for a loan but must take a realistic view of their lifestyle as well as educate themselves on how lenders arrive at mortgage payments.
The typical mindset of a mortgage consumer it is to choose the loan with the least amount of monthly payment attached to the largest principal. This choice can actually cost a consumer thousands and thousands of dollars over the life of a 30-year mortgage. A shorter term mortgage will indeed result in a higher monthly payment but the cost to operate the home on a daily basis remains the same. So, by increasing the burden and expense of a mortgage can increase a homeowner’s chance of default.
Some daily, monthly, and annual operating expenses to consider beyond mortgage payments:
- Yard work
- General household maintenance
- Future repairs and replacements
Your household operating expenses will also depend on the type of lifestyle you lead. Consider how energy efficient your dream home will be. Also, how many family members will be living in that space and using energy resources? Higher utility prices can eat away at monthly income very quickly. Clearly, the total cost to own and operate a home is not fully reflected in a mortgage amortization schedule. Savvy mortgage consumers should never assume that, because a bank authorizes a specific amount of lending, it is the right price to purchase a home at.
From a lending perspective, longer term mortgage debt is more profitable as interest is incurred for a longer period of time. On the reverse, the benefit to the consumer is a smaller payment because repayment of principal and interest is spread over many years. Smaller payments may seem like a great idea, however, the cost to operate one’s home remains the same. There is a distinct positive correlation between choosing a shorter repayment term, purchasing a less expensive home under your approved financing ceiling, and taking a realistic inventory of household operating expenses with the decreased risk of mortgage default.
When consumers take a proactive look at the total expense of home ownership, their default rate lessens. It may take some time and effort to audit your current household financial information and also predict future increases such as local taxes, homeowners’ insurance rates, and family lifestyle changes, but the end result will give you a clear understanding of your true mortgage purchasing power. Consumers that choose to purchase a home at the top of their budget are still faced with higher home operating expenses and put themselves at risk of default. Choosing the right mix of mortgage payment and home purchase price will secure your family’s future.
Tracy Freese, MA, CTEP