Conversations with a First Time Home Buyer
I’m passionate about financial literacy and find that many young people lack an outlet to discuss personal finances. Recently, I sat down with a family friend to gain insights into the questions younger adults may have about financial planning.
I approached the conversation with assumptions about her interests, such as basic banking or investing. However, her response was eye opening: as a woman in her early twenties, entering her final year of university, her primary questions related to saving for a down payment and obtaining a first mortgage.
What should I think about before I start saving?
Understanding your cash flow is the starting point for making various financial decisions, as it directly relates to what you can afford to save for a down payment or spend on home ownership.
Cash flow planning involves closely monitoring your income and expenses by tracking every dollar. This helps you understand where your money is going and whether you can afford to start saving for a down payment. Our webinar, Following Your Money Trail: Building an Effective Cash Flow Plan, discusses how to create a cash flow plan and leverage it to achieve future goals.
Another key starting point is creating a plan to pay off any current debt, such as student loans, car loans, line of credit and credit card debt. Eliminating consumer debt by the time you are ready to purchase a home ensures that your monthly obligations remain manageable.
What type of account should I use to start saving for my first home purchase?
The First Home Savings Account (FHSA) is a good option for saving for a down payment. These accounts, recently launched, are specifically designed for this purpose.
A primary benefit is the ability to claim a tax deduction on the amounts contributed to the FHSA. In our recent series on registered accounts, we included an Introduction to FHSAs, highlighting its features and benefits.
Once the FHSA is fully utilized, a non-registered investment account, Tax-Free Savings Account (TFSA) or a Registered Retirement Savings Plan (RRSP) are options for continued down payment savings.
What should I invest the funds into?
Deciding what to invest in once funds are deposited into an FHSA depends on several factors, including:
- Time frame: When do you plan on accessing the funds? The shorter the time frame, the less risk you should take to avoid unexpected decreases in value immediately before accessing the funds.
- Comfort level with risk: In the context of investing, risk refers to the fluctuation you could see in the account’s value. This comfort level can be based on factors such as personality, investment knowledge, and the purpose of saving the funds. For short-term goals, sensitivity to value changes is heightened. Imagine saving money for a down payment and seeing it’s value decline by 10 – 20% or more that could be a tough pill to swallow.
A good primer on different investment options is available in our Investment Basics Webinar.
What is a good down payment goal?
First-time home buyers tend to put down around 5-10% of the home’s purchase price.
The gold standard is to make a minimum 20% down payment. This eliminates the need for mortgage insurance, reducing additional costs that are often added to the mortgage amount and increasing your monthly payments. While this may not be realistic for everyone, it is a good goal to work towards.
You should also consider additional up-front costs that come with buying a property, including:
- Legal fees
- Moving costs
- Ancillary items, such as shovels, rakes, lawn mowers and sprinklers.
What is a mortgage and when should I start looking at specific lending options?
A mortgage is debt secured by the property you are purchasing. This provides access to better lending rates (terms) and allows you to structure the payments over a longer period (amortization).
Many focus on the minimum payment amounts, structured based on an amortization period of up to 25-30 years. Meeting with an advisor well-versed in mortgage lending is important when you are within a year of considering a purchase to understand the current rate environment and potential mortgage payment options.
What are some other things I should be thinking about?
A common mistake first-time home buyers make is underestimating the costs of home ownership by equating their current rent payment to a mortgage payment. The regular costs of home ownership can include:
- Principal and interest payments on a mortgage
- Property insurance premiums
- Property taxes
- Condo fees (if applicable)
- Utilities
- Emergency savings for future repairs
A home is often an individual’s largest asset, so it’s important to protect it. Consider who is buying the home. If you are purchasing with someone else, discuss your long-term goals, including how long you plan to keep the property and what will happen if one person wants to sell their interest. Also, consider who will be living in the home if they are not a property owner, as the home could be subject to division, in the event of a marriage or other life changes. Whether you are in a relationship at the time of purchase or are considering cohabitation in the future, consulting a legal professional is important to protect your asset.
A mortgage is often an individual’s largest debt, so it’s important to consider what could happen in the event of death, disability or a critical illness. Being able to pay off the mortgage balance in the event of your death could ensure that your family is able to stay in the current home. Having financial assistance to cover some or all your regular mortgage payments in the event of disability or critical illness could be the difference in staying afloat during a difficult time. Consulting with an advisor well-versed in your available options, such as our team, can help you make an informed decision and factor in the monthly costs of the insurance premiums.
Being prudent and well-informed will support making good decisions as you consider this significant life change. Planning and consultation with professionals are your best strategies.
