Owning a home isn’t all glitz and glamour. In fact, many homeowners struggle with the expenses that keep everything running on the home front month after month. Even if you’re able to afford to buy a home and get approved for a mortgage, more than a third of homeowners have come up short when being able to afford their current expenses, according to a 2016 Manulife Bank Homeowner Debt Survey.
Experts warn home buyers about the importance of not being “house poor” and being careful not to use all of their disposable income when purchasing their home, but what happens in the years afterward, when their biggest asset increases in value while their disposable income dwindles to nearly nothing? Where do buyers go wrong?
For younger buyers, it’s often simply explained by more money needing to go out than is coming in. “We see this kind of cash crunch more often in younger group of people, with a mortgage, young children, daycare costs, there’s so many multiple demands for that income,” says financial planner Rona Birnbaum.
The problem starts before buying a home, because many people just use a simple mortgage calculator. But don’t forget that that figure is just your mortgage payment. You probably still need to hop over to a mortgage insurance calculator to calculate the amount you’ll pay for mortgage default insurance if you’re paying less than 20 per cent and a mortgage affordability calculator to figure out the true monthly cost. The trick with the latter is that you have to be honest about the numbers you’re using. If you don’t know what your monthly utility costs are, then don’t guess; look at your utility bills for the past year and get a monthly average – and then tack on more if you’re upgrading to a bigger place. More space equals more in heating and cooling costs. Combining households with a partner? More showers and toilet flushes equal more water consumption and therefore higher costs. If you don’t know what your property taxes will be, then look at property listings comparable to what you hope to purchase in the same area. Keep in mind that they almost always increase, as do maintenance costs as your home gets older.
The majority of first-time buyers say that they’re willing to make sacrifices in order to buy their homes, but once the ink dries on the paperwork, some people feel as if they can loosen their belt a bit. Be honest with yourself. Know what you’re willing to sacrifice, and what you aren’t. Buy accordingly.
That isn’t to say that the shortfalls some homeowners experience are due to mismanagement of discretionary income. Sometimes there just isn’t enough money to go around. When a partner loses a job or when child care costs come into play, it can be a huge blow to a monthly budget. If buying the house depleted your savings and liquid assets, sometimes there’s little – if any – to fall back onto when you experience a change in your financial needs.
People often assume that their earning potential over their trajectory of their careers will match any rising home costs, including changing mortgage rates, as well as covering any unforeseen repairs. But one of the biggest concerns when it comes to owning a home is that it’s hard to continue saving money at the same rate as when you’re renting, even for fiscally responsible homeowners. Because of that, homeowners are ending up with less money saved for emergency situations or daily expenses.
Being house poor is no fun. But what’s the problem with being house rich? Isn’t that the goal of buying a house?
Well, yes and no. Plenty of people are house rich, which is when they have quite a bit of equity in their homes. The problem arises when homeowners can’t make ends meet on a monthly basis in spite of their home being such a valuable asset. Being house rich and cash poor may also mean that a homeowner neglects to contribute to their retirement and other savings when they’re strapped for cash on a monthly basis. According to the Manulife survey, only four in ten people said they feel confident they will have enough saved up by retirement age, even though they expect to have significant home equity built up by that time; 48 per cent of Canadian pre-retirees aged 45 and older say they have not started or are not currently saving for their life after work, according to an HSBC report titled “The Future of Retirement.”
“Furthermore, they are twice as likely to consider selling their homes to fund their retirement compared to those who have been able to stay on-course with their retirement savings plans,” says Betty Miao, executive vice-president and head of retail banking and wealth management at HSBC Bank Canada.
Birnbaum, however, says that the situations that she sees are usually bit different. “If a mortgage is a big part of what [a homeowner’s] cash flow obligation is, they’re often not house rich either. In other words, they have little equity,” she says. “It’s a misnomer to say that they’re house rich and cash poor, because the bank owns most of their house in those cases.”
If a client does find themselves with equity in their home yet struggling to make ends meet on a daily basis, Birnbaum recommends a three pronged approach, starting with items that are within your control: the first involves securitizing your cash flow and determining whether the cash constraints are because of fixed expenses that you can’t do anything about or whether they’re partly due to excess spending on luxuries or variable spending; the second involves determining ways to increase your income, whether it be freelancing and taking on more clients, charging more for your services, or positioning yourself so that you’re more likely to get promotions and raises as opposed to cost-of-living increases.
“If you’ve done #1 and you’ve done #2 and you’re still in a cash crunch situation and you’re not paying off your credit card bill every month and those kinds of things that are happening, then you have to look at whether it makes sense to refinance your debt,” Birnbaum says. “Could you be structuring this debt more effectively, lowering my payments, reducing my interest costs? And I say that it’s the third approach because it’s often the most expensive approach.”
People refinance their mortgage to get cash for things like renovations or consolidating debt, but it’s not a fail-safe process. It’s often as lengthy and arduous as applying for a mortgage from square one, and it leaves a mark on your credit each time. And when you use your home like a bank, borrowing when you need positive cash flow, it’s not free money; you have to pay interest on it, making it more expensive in the long run. Depending on the penalties and fees associated with your particular mortgage, refinancing might not be the road you wish to take, although it may have the added benefit of getting you a lower interest rate than you current have. If you choose not to refinance, you have the other options of selling your home to access the equity – but don’t forget that you’ll still need somewhere to live – and taking out a line of credit such as a HELOC in order to have enough cash to make ends meet day to day. 20 per cent of pre-retirees in Canada plan to downsize, or sell their primary and secondary residence in order to fund their retirement, according to the HSBC report. If you’re nearing retirement age, you also have the option of getting a reverse mortgage or simply continuing to work.
The flip side to the low-interest rate environment that’s made mortgages and other forms of money borrowing so appealing is that returns on other savings and investments are so low that there’s not as much of an incentive to save anymore.
It’s important to factor in your savings and contributions into your monthly expenses. It’s impossible to predict the future, but buying a home is a long-term purchase and as such it is important to think of various long-term scenarios that may affect the affordability of your home. If you cut out savings contributions in order to have enough cash to buy your home, then you risk regretting it in the months and years to come.
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