Question for a Friend

[LuckyRobin]

A friend of mine has just been approved for a mortgage for a large four bedroom house they want to buy. The house is on sale for $419,000. They have $100,000 saved for a downpayment. They have a $10,000 emergency fund. They have one debt, a brand new luxury vehicle payment of $800 a month for a $50,000 car. The husband brings in $125,000 a year. The wife has just started a service six months ago where she drives people from her home town (which has a smaller airport) to the Sea Tac airport (hence the luxury car) and back. She charges less than a plane ticket but more than the shuttle bus. She'll also drive some of her rich, elderly clients about town to medical appointments and errands. Her income is hit and miss. One month she'll make $2000, the next $3000. This is after her gas expenses, but before she pays her taxes. What she wants to know is can they really afford this house or should they look for something more economical. They intend to stay put. They have no kids now but do plan on it in the future (but not for a couple of years) and that may curtail her business quite a bit and they might have to rely just on the husband's income. What would you advise?

[LivingAlmostLarge]

Assume $84k DP, EF now of $26k, and monthly mortgage of $335k @ 5% for a 30 year fixed is $1798/month. Taxes are $400/month assuming 1% so $2200/month. Grossing $10k/month that's 22%, so it's within the guidelines. $800/month car payment is 30% of income for DTI ratio.

I think so. By the time they have kids his income will go up, no car payment, and they are still making it on one income right?

[MonkeyMama]

I'd advise paying off the car, quickly. While business is good.

The house doesn't strike me as a large purchase, based on their income (even just his income). I'd probably put a little less down and keep more in savings. But, maybe their plan is to replenish savings quickly - which could be fine.

Oh, depends significantly on their age. I assume they are in their 20s/30s, so sounds fine.

(LAL and I are used to extreme high cost areas, so this seems like *nothing* to us! 22% gross income to housing? Doesn't sound bad at all).

[disneysteve]

The house is on sale for $419,000
The husband brings in $125,000 a year.
Her income is hit and miss. One month she'll make $2000, the next $3000.
What she wants to know is can they really afford this house or should they look for something more economical.

Based on these numbers alone, yes, they can afford the house. Rule of thumb is to spend no more than 3 times your annual income. If she makes $2,000/month, that gives them an annual income of $149,000 and 3 times that is $447,000, so they're okay there. If we only consider his income, that puts them at $375,000 so they'd be out of their price range at that point. Another rule is to put down at least 20%. If they will put down at least $83,800, they're okay there.

Where I see a problem is with them only having a $10,000 EF. They can beef that up by not using the whole 100K for the house. Just do the 20% and put the rest in the EF.

More questions: What percent of income is going to retirement savings? Somehow I suspect the number is pretty low but I'm just guessing.

I think the house is too much for them but everyone here knows I tend to be very conservative on these matters. I wouldn't buy a house based on her income because it isn't stable and is likely to drop off or disappear entirely in the not too distant future. And I wouldn't buy at the upper end of the affordability range. We paid less than 2 times household income for our home and I believe that has made a tremendous difference in our ability to save and build wealth for the future while also living a very comfortable lifestyle today.

[Frugal]

If I were in their shoes, I would also pay off the car first. Interest rates could go up if there is a debt default or downgrade.

[LuckyRobin]

He is 30. She is 28. He maxes out his 401K every year and has $102K in it. She has $57K in an IRA that she rolled over when she quit her previous job. She's not been saving for retirement since starting the business but hopes to start next year. When she started the business she did so with the bulk of their emergency fund, which is why it is so low now. (Plus I kind of think that they've been using the downpayment as "mental" backup). They've been living in a fairly inexpensive one bedroom apartment for the last eight years and saving all they could get their hands on. This is pretty much their dream house, but as serious savers she is scared to take the next step. The car is the first time they've had debt since the first year of their marriage.

[LuckyRobin]

So was there any more advice after posting their retirement info?

[MonkeyMama]

So was there any more advice after posting their retirement info?

No - sounds fine to me.

[disneysteve]

So was there any more advice after posting their retirement info?

I think the retirement numbers are good - much better than I thought they'd be. I wonder, though, if they will be able to continue maxing out his 401k and funding her accounts if they put themselves in this house. I still think the house is a stretch, especially if she anticipates leaving the workforce within a few years.

[LuckyRobin]

They decided to put in a lowball offer of $319,000. I guess the house has been on the market for over a year with no offers. The sellers countered with $375,00, they countered with $325,000, sellers countered with $350,000, they countered with $335,000 and it was accepted.

[mcfroggin]

335k is a pretty decent figure for them. Congrats to them!

[MonkeyMama]

That's great!!!

[creditcardfree]

Wow. $335K, even better deal for them.

[disneysteve]

That's much better. At $335,000, that is now well within what I'd say they can afford. Plus a 20% downpayment is now only $67,000, leaving them more cash to pump up their EF.

[Ima saver]

Wow, that is great. We have been getting some real good buys on land. Now is the time to buy. We got an $80,000 lot on a creek this week for $20,000. That is the 5th lot we have purchased within the past six months.