Do You Know What the Most Costly Part of Buying a Home Is?
If nothing else, buying a home is an interesting financial proposition. There is a lot more to it than meets the eye. For example, do you know what the most costly part of buying a home is?
If you answered the house itself, you are correct. But before you jump on the Captain Obvious train, set the actual purchase price aside for one minute. What else would you spend money on? Of all the extra things that go into a home purchase, what comes in second place behind the cost of the property?
Here are some of the possibilities, in no particular order:
- Property taxes
- Maintenance and repairs
- Mortgage insurance
- Mortgage interest
- Homeowner’s insurance.
Which item do you think will cost you the most above and beyond the actual purchase price? Be careful how you answer. It is surprising just how many first-time home buyers do not know what it is.
● The Cost of Borrowing
Okay, there’s no point in keeping you in suspense any longer. The most costly part of buying a home above and beyond the purchase price is mortgage interest. What is mortgage interest? It is essentially the cost of borrowing. It is the amount of money you repay the lender over and above what you borrowed.
For purposes of illustration, let us work with simple numbers. Pretend you borrowed $100 from the bank at 12% annually. You had one year to pay back the loan. Multiplying $100 by 12% gives you $12, or $1 per month. At the end of the year, your total monthly payment of roughly $8.33 would add up to $112.
Unfortunately, calculating mortgage interest is not that easy. Mortgage interest is assessed year after year. Let us say you are fortunate enough to get a mortgage of 3%. The first year, you pay 3% on the total amount borrowed. Next year, you pay 3% on your remaining balance, and so on for thirty years.
● A Real-Life Example
The Investopedia website offers a real-life example of this in action. They published a piece in July 2021 featuring a Bel-Air, California home listed at $225 million. Utilizing a selling price of $200 million and prevailing rates at the time the article was published, they estimated total interest over a 30-year mortgage adding up to $115 million.
Anyone who bought that property would pay total interest in excess of 50% of the home’s sale price. And because interest is calculated as a percentage of what is owed, the same principle holds true regardless of the house you buy. You could pay more than 50% in mortgage insurance on a home worth a paltry $100,000.
● The Current Real Estate Market
As you probably know, the real estate market has been hot for more than a year. Home prices continue to climb as buyers compete for limited stock. In Salt Lake City, Utah, the market has been hot for several years running. CityHome Collective says that low interest rates are the main reason.
Experienced home buyers intrinsically know that low interest rates mean the cost of borrowing is lower as well. They know that every time interest rates tick up, even by half a point, this means the cost of borrowing goes up. So they want to buy while interest rates are low.
Over the life of a 30-year mortgage, the most expensive part of buying a home above and beyond its sale price is mortgage interest. Unless you are an exception to the rule, total interest payments will cost you more than maintenance, repairs, insurance, and taxes.