First Time Home Buyers

For most of us, the purchase of a home is the most important financial commitment we'll make in our lifetime.  Schools don't teach us how to go about it, and books available on the subject are complex and assume far more knowledge than most first-time buyers possess.

If you're a bit overwhelmed by the thought of buying your first home, this is written for you.  This will help you understand the many terms used in real estate transactions.

This is not intended to be a replacement for the professionals who will help you buy a home.  These people are part of your "team" and will provide you with the information you need to make the best decisions.  Nor are we going to cover every single detail involved in purchasing residential real estate.  Our goal is to help you generally understand how one goes about finding and buying the right home, and what you can expect along the way.

Let's get started.  We've attempted to present each topic in the order you're likely to deal with it during your home-buying adventure.  Of course some of these events may take place at the same time.  For example, you may want to begin investigating mortgage financing during the early stage of your house-hunting expedition, at the same time you're interviewing prospective Realtors.

To Own or Not to Own?
For many, homeownership is a compelling dream.  We look forward to the freedom and security of owning our own home, and are more than willing to make sacrifices to achieve our goal.

But owning a home is not for everyone, and you must consider your personal needs carefully before taking on this large responsibility.  Your decision to buy should include an assessment of your financial situation and how well you manage your money.  But first, a word or two about timing.

When should you buy?
Much has been written about the "right time" to enter the real estate market and become a homeowner.  This is especially challenging when the market seems to be changing.  If housing prices are falling, people tell you to wait until the market "bottoms out" before buying.  When prices are increasing quickly, there's an urgency to buy and avoid being left behind.  Unfortunately, even the so-called "experts" can't predict accurately when a market will reach its peak or lowest point.

Remember the primary purpose of buying a home: to provide you and your family with a comfortable place to live for several years or longer.

Making your money work for you.
There are two additional and related factors that make home ownership financially attractive: "leverage" and "capital gains exemption".

When a relatively small amount of your money controls a much larger asset, that's called leverage.  For 25%, 15% or as little as 5% of a home's purchase price, your hard-earned cash can be used to acquire a house worth tens or hundreds of thousands of dollars.  The more your money is "leveraged" in this way, the greater the financial return on your initial investment (down payment) as the value of your house increases.  Few other major investments can be purchased with as little as 5 to 25% of your own money.

No tax on your home's capital gain.
As we've just seen, the increase in a home's value (and almost any other type if investment) is called a capital gain.  When the value of most investments such as stocks or term deposits increases, you pay tax on the capital gain.  However, the government allows Canadian taxpayers to be exempted from paying capital gains tax when their principal residence increases in value.

Are you ready to buy a home? Over the years, have you demonstrated the ability to save money and are generally pleased with the amount you have saved so far? Are you ready to change your spending and life-style habits to support the additional costs of paying for and maintaining a home? Have you worked hard to earn a good credit rating and continue to use credit wisely? Are you prepared to enter into a long-term commitment for my family's security, both physical and financial? Is pride of ownership is important to you, and would you enjoy the chance to take care of your house, inside and out?

Affordability and your decision to buy.
Probably the most expensive thing you've bought so far is a car or an apartment full of furniture.  Now you're facing home prices that are five, ten or even twenty times the amounts you paid for those other consumer goods!

Let's face it.  It is more difficult for the first-time buyer today than it was when our parents purchased their first homes.  Over the years in many Ontario real estate markets, increases in home prices have exceeded the gains in median family income.  The average down payment required to buy a home has also increased more rapidly than our incomes, in many cases.

So what's the good news you ask?  The answer is that real estate values are expected to continue increasing over the long term.  And why is that good news?  Because the sooner you buy your first home, the sooner the tendency of property to appreciate will help you.

Despite today's prices and down-payment requirements, somewhere out there is a home with our name on it.  The important thing is to get into the market as soon as you are able to afford your home.

Matching dreams with reality.
Most first-time buyers want their dream home right away.  The best way to deal with this reality is to match your financial capabilities with the home that meets as many of your needs as possible.

How Much Home Can You Afford?
Look at your financial situation and you will then see how you can apply that knowledge to finding homes in your price range.

The vast majority of home buyers lack the funds required to buy a home without assistance from a bank or other financial institution ("lender").  Most of us buy our home with a combination of savings and money borrowed through a special type of borrowing arrangement called a "mortgage".  Borrowing to purchase is not only acceptable, but it's desirable.

Definitions Mortgage - a contract between someone who wants to borrow money to buy a home (this is you) and someone who is willing to lend money (the lender).  When you buy a home, your property is security for the lender through a mortgage. Principal - the initial amount of money you borrow and, after you've begun making mortgage payments, the remainder still owing on the original mortgage amount. Down Payment - the difference between a property's purchase price and the amount financed through mortgage.  This difference is usually paid in cash, or through a combination of cash and other types of financing. Mortgage Payment - The regular installments you make towards paying back the principal and interest.  Payments are usually made on a monthly basis, although you can arrange to pay more frequently. Taxes - Every municipality charges taxes on property within its jurisdiction.  As a homeowner you will be responsible for paying these property taxes.  Often, taxes are added to your mortgage payments. Insurance - Lenders require that you protect your property (and their collateral) against hazards such as fire, storms, etc., with homeowner's insurance.  Moreover, if your down payment is less than 25% of the home's purchase price you may be required to buy mortgage insurance.  More on insurance later. Maintenance Fees - The amount condominium owners pay monthly to help maintain and service portions of their building and grounds.  Maintenance fees are included in the calculations lenders use to determine your ability to make your monthly mortgage payments.

There are two types of costs in buying a home:
1. The amount of money you will need for the initial purchase; this consists mainly of the down payment and other costs such as legal fees, inspection fees and taxes.
2. The ongoing costs of paying back your mortgage and monthly operating costs for utilities, maintenance, insurance and annual property taxes.

When lenders assess your ability to buy and determine how much money they will lend you, the look at your ability to pay both types of costs.  Before you ever visit a lender, you can predetermine this amount, using the same formulas they do.  But first, here are some definitions for terms we'll be using in our discussion.

How lenders "qualify" borrowers.
Most lenders say that your monthly housing expenses (mortgage payment and taxes), plus condominium maintenance fee, if applicable, should not exceed 30% of your monthly gross family income.  This is called your Gross Debt Service ratio (GDS).  Some lenders will go as high as a 35% GDS, depending upon a number variables.

Lenders also use a second calculation in qualifying you for a mortgage.  It's called the Total Debt Service ratio (TDS).  Generally speaking, no more than 40% of your gross family income may be used when calculating the amount you can afford to pay for mortgage payments and taxes plus other fixed monthly expenses.  The other fixed costs are your ongoing commitments and can include auto, student or personal loans, as well as revolving charge accounts such as VISA, MasterCard and department store accounts.  Again, the 40% calculation may vary slightly among lenders.

A few final thoughts on affordability.  Just because your debt service ratios qualify you for a given mortgage amount, don't assume the process is automatic.  Your lender will also look at your overall credit rating, number of years at your present job, and other factors in assessing you as a loan risk.

Working with a Real Estate Professional
Steps you should have looked at up to this point:

• Made the comitment to buy a home;
• Determined the price and size of home you can afford;
• Thought about the type of home you'd like to buy;
• Listed the features you need and want in your home;
• Studied the real estate advertisements, researched the market and visited open houses.

It's time to add a Realtor to your team.  Realtors are either brokers or salespersons.  The term "agent" is frequently misused in describing real estate professionals.

Who does a Realtor work for?
Many people mistakenly think that the Realtor represents the buyer and seller equally.  However, this is usually not the case.  In residential real estate transactions, Realtors have traditionally been the legal agents of the sellers.  When a seller contracts with a Realtor to sell a home, the Realtor fills out a "listing", which is another term for the contract between the seller and the broker.  When the home is sold, the listing broker earns a fee paid by the seller.

The listing broker owes a legal obligation to look after the best interests of the seller and is therefore called a "seller's agent".  That Realtor can offer invaluable services to buyers, but it is important for buyers to understand that the Realtor is ultimately working for the seller.

In many real estate transactions, a second Realtor called the "selling broker" is involved.  This is not the Realtor who listed the property, but the one who actually finds the buyer for the property.

It may appear that the Realtor working with the buyer, the selling broker, is working for that buyer and is legally obligated to look after the buyer's best interests.  That is not necessarily so.

Some Realtors work with and for buyers, and are then said to be acting as a "buyer's broker" or "buyer's agent".  In these situations, the Realtor and buyer have a written agreement stating exactly what services the Realtor will provide the buyer and who will pay for those services.  A typical buyer's agreement will commit a purchaser to work exclusively with that Realtor for a specified period.

Realtors are obligated to inform you, early in your relationship with them, whether they are acting as a "seller's agent" or "buyer's agent".

Be honest and remain loyal.
Once you've selected a Realtor, be honest in discussing your financial situation and carefully review the features you are looking for in a home.  This will help the Realtor find prospective homes best suited to your needs, and it will save you a great deal of time in the bargain.

Most importantly, remain loyal to the Realtor you've chosen if the Realtor earns your trust.  This individual will be spending a lot of time and effort on your project, but won't be paid unless and until the transaction is completed.  In return, the Realtor deserves a degree of loyalty from you.

Adding a Lawyer to Your Team.
When you buy a home, you'll have plenty of opportunities to sign your name.  Among the flurry of papers requiring your signature, the most important are the "Agreement of Purchase and Sale" and the mortgage financing documents.  Realtors have training and experience in drawing up the Agreement of Purchase and Sale, and will help you understand its contents.  However it's also important to have a lawyer on your team, someone who can wade through all the "legalese" to ensure that your rights and interests are fully protected.

Making an Offer
Your house-hunting expedition has been a success! You've found the right home, one that satisfies your needs, most of your wants... and best of all, it fits your pocketbook.  Now comes one of the most important phases of your home-buying experience: making an offer to purchase the home.

Basically, the offer (called the Agreement of Purchase and Sale) is a precisely worded document that sets out the terms and conditions between the buyer (you) and the seller.  Once the offer is made and accepted, and after any conditions of the offer are met (if there are any conditions), the offer becomes a legally binding contract.  This means that you and the seller are obligated under law to hold up your ends of the agreement and complete the transaction.  For that reason, you must be very sure you understand what's in your offer before you sign it.

A properly drafted offer should leave no room for interpretation.  It should contain everything that is important to you about the home and the transaction.  For example, if the MLS listing states that the washer and dryer are included in the sale, put that fact into the offer.

Preparing the offer
If this is the first time you've purchased a home, you probably have never seen an Agreement of Purchase and Sale before, let alone drafted one.  Not to worry.  Your Realtor is knowledgeable about this subject and will prepare your offer, taking into account all the factors that are important to you.

Arranging a Mortgage

Who offers mortgage funds?
It might seem easier to ask, who doesn't?  Mortgage lending is big business, and everybody wants in on the act.  That's good news for you, because with so may players, competition for mortgage lending is extremely intense.  All the more reason to shop around.

Banks and trust companies lend the majority of the funds.  Credit unions welcome mortgage business from their members (evn new members who have just joined), and some life insurance companies can lend you money.  Mortgage brokerages exist solely to write mortgages, and then may sell them to outside investors.  Private lenders are another alternative for mortgage funds and are usually accessed through the services of a mortgage broker or lawyer.  You don't have to visit them all - let your fingers do the walking.  Most will be delighted to answer your initial questions by telephone - and if they're not, that may say something about their dedication to service.

Mortgage brokers have acceess to conventional lenders (banks and trust companies), private lenders, pension funds, real estate syndicates and foreign banks.  In effect, a mortgage broker's role is that of matchmaker, introducing the appropriate lender to the qualified buyer.  Brokers can also be helpful in arranging financing for buyers who have questionable credit ratings, high debt service ratios or other potential problems.  Most mortgage brokers, when arranging mortgage financing for qualified buyers, do not charge a fee to the borrowers.

The Home Inspection.
When you walk through a home that you're seriously considering buying, it's often difficult to put aside your emotions and really "see" what kind of shape the place is in.  Are you really going to crawl under the foundation or climb onto the roof to check the place out thrououghly?  Not likely.  Even if you did, few of us have the training to uncover the major structural flaws and maintenance problems that can result in expensive repair bills after you've bought the home.

A home inspection before you purchase gives you the security of knowing what to expect, and helps you make an informed decision about the value of the home and the costs of future upkeep.  If a major problem is discovered, you can bring it to the seller's attention before waiving any conditions on your offer.  Since you don't want to hire a home inspector for every home you may be considering, ask the Realtor or lawyer to add a conditional clause to your offer, making it subject to a satisfactory inspection.

Closing the Deal
Your offer has been accepted by the seller and you can't wait to move into your new home.  These are exciting times, but don't break out the champagne just yet.  There's still more to do before you officially become a homeowner.  You've got to prepare for and complete the process known as "closing".

Closing is the point at which the ownership and usually possession of the property is transferred from the seller to you.  It takes place after the parties involved agree that all legal and financial obligations have been met.  Several people, including you, will have a role in this process.  The Realtor and your lawyer will do much of the work.