How to protect yourself against a housing bubble
Author: Aimee
A “real estate bubble” means that speculative buying has driven the market value of real estate in a specific area up to a point where the prices are unsustainable and as a result they begin to drop. This does happen, every 20 years or so the market corrects itself. Rents go down. Many people loose everything they have.
The last thing you want to happen when you buy a home is for the housing bubble (if there is one) to pop. If you were to lose your job during this time you could end up going into bankrupsy if you couldn’t give the bank their money.
Say you got a mortgage for a $300,000 home with no down payment and and right away the market prices dropped. Your house is suddenly worth only $250,000. Now imagine that you suddenly lost your job and could not afford to make the payments on your mortgage and were forced to sell at the reduced price. You would only get $250,000 back minus the cost of selling your home. This means that you would now be more than $50,000 in debt on top of all of all of your other bills…and wouldn’t have any way of paying them. You could lose everything you have! This is the kind of thing that can happen if you don’t protect yourself!
So the question is how can you protect yourself?
1. Don’t buy more than you can afford
Many mortgage companies recommend that you only buy what you can afford. This means that your payments will be 1/3 of your gross monthly income. If you are making $30,000 a year then you should not take out a loan where the payments will be any more than $833.33 per month. Just to be safe you might want to reduce it further by 10 or 15%.
2. Maintain an emergency fund
It is always important to have an emergency stash saved up of at least 3-6 months worth of living expenses. This means save up enough money so that if you lost your source of income, you would have enough to live at your current standard of living for at least 3 months. I recommend having at least 6 months worth. As long as you have the money to get yourself through a time where real estate prices are low, then the temporary drop in value will not affect you and you will be able to either wait it out, or find yourself another job.
3. Make a large down payment
Making a large down payment for your home will give you a cushion of protection so that if prices do drop, you will have less of a chance of ending up in debt…not to mention the fact that your monthly mortgage payments will be lower.
4. Buy a property with income potential
If you are buying a house for you and your family to live in, why not get a house with a basement apartment or a house that has an area that can be easily converted to a basement apartment? This can be a great way to reduce risk and the cost of your monthly mortgage. Why not have a tenant pay half of your mortgage every month, that will give you the chance to save that extra money for a down payment on your next house, or to suppliment your emergency fund incase something does go wrong. This way, if your property value drops, and times get hard, that extra income could be just what you need to get you through it.
I agree with this post-especially the 4th point.
On my blog I talk a lot about buying property for the sake of making money and I might also add that I encourage people to buy a duplex or triplex or quad.
It’s not much harder to get into a duplex been a regular home, and as the author mentioned, your tenants pay half your mortgage for you if not more!
Comment by MN Home Investors — January 16, 2008 @ 5:13 am