The number of first-time homebuyers has declined in recent years. Often the hardest part of the process is coming up with the down payment and credit approval to buy. Gift money can be used with some financing, and the biggest source of that gift money usually comes from family. Sometimes parents co-sign or even buy a home themselves and rent to their child as an investment, but is this a good idea?
Some questions to ask before you jump off that limb are…
- What is it going to cost me, not just now but also in the future?
- What will I do with the home when my child is ready to move on?
- Will my child be able to provide proper care and maintenance for the home?
- Will the home put my child into a lifestyle that will be impossible to maintain?
I wrote a post a few years ago about buying a place for your college student that still applies, even if your child isn't a student…
The idea of buying a place for your kid while in college has been around for a long time, but don't assume it is a good option for everyone. Here are some questions to ask to help determine if it is a good choice for you.
Is your college student mature enough to handle it?
- In addition to academics, another important part of the college experience is growing in maturity. If your student is going directly from high school to college and campus housing is available, that can be a great way to connect socially and transition to more independence for the first year or two. Living alone can be isolating.
- If you buy a property where your student will be renting to roommates, is he or she prepared to be a landlord?
- Will your student be able to handle maintaining the property? Not just cleaning it, but keeping the property in good repair, shoveling snow, mowing grass, etc.
What is the market like where your student will be going to school?
- All real estate is local, so understand the market where you will be buying… not just the city itself but also the surrounding area
- Are prices stable? declining? on the rise? Are prices/values better for houses, townhouses or condos?
- What difference does it make if you buy close to campus or away from campus? How important is it to be near public transportation?
- How long do you plan to keep the property?
- How hard will it be to sell the property when you are ready to do so?
- Might you keep it as investment property? Sell it to your student as a first home? Sell it and 1031 exchange it for another investment property?
How will you finance the property?
- The FHA "Kiddie Condo" loan program allows a family member to be a non-occupant co-borrower on a property… be sure to check with your lender to make sure this program is still available
- Your child would buy the property with you as co-borrowers, and all persons on the loan (including your student) must have qualifying credit scores.
- Advantages are the down payment may be as low as 3.5% of the purchase price and you can get a lower owner-occupied interest rate instead of higher investment interest rates.
- A potential future benefit is that FHA loans are assumable; if interest rates are higher when you sell, the option for your buyer to assume your lower rate could be a benefit.
- Disadvantage is that with increasing FHA upfront and monthly payment costs it may not be your best option unless you want a minimal initial cash investment and/or have lower credit scores or high debt-to-income ratios.
- If you are buying a condo, the entire complex must be FHA approved for you to use FHA financing.
- Conventional financing would typically treat it as an investment property and would require a down payment of 25-30%
- If you plan on owning the property for a long time, a fixed-rate mortgage may make the most sense.
- If you know you will sell when your student is done with school (even if you sell to your student), an adjustable rate mortgage may make more sense. They are usually fixed for 3, 5 or 7 years before becoming adjustable on an annual basis. They can become expensive if you keep them longer than the fixed term, but your initial rate is usually lower which can be beneficial if you don't plan to keep the property long term.
What about cash flow? Consider all the costs of owning a property if you are comparing it to costs of renting. Typical things to consider are…
- Monthly mortgage, taxes and insurance payments
- Homeowner's insurance (even if you buy a condo with a blanket policy, you should insure the interior)
- Additional liability insurance if you rent to roommates
- Homeowner's association dues (mainly for condos and townhomes)
- Utility costs
- Maintenance and repair costs
- Consider cost offsets by potential rent from roommates and tax savings
- Consider that prices could rise while you own the property, but they could also fall…
- Factor in costs of both buying and selling the property including changing property values if you don't plan to keep it
- Discuss tax implications with your financial advisor
What type property should you buy?
- Are you buying for your student to live solo or with roommates?
- Know your child… what condition do you expect the property to be in when your student is ready to move on?
- Might your student want to stay in the area when done with school and buy it as a first home? What about you? Might you want to keep the property as a vacation or retirement destination?
- Is your student responsible enough to handle interior and exterior maintenance and snow removal/lawn care?
- Will your student be living there continuously or leaving for periods of time to come home between terms or study abroad or for internships or…?
- With a house you assume responsibility for everything from repairing the furnace to shoveling the snow and mowing the grass… expect unexpected maintenance and repair costs.
- With a condo or townhouse expenses are usually more predictable and responsibilities more limited through Homeowner Associations… your monthly fees may include things such as exterior maintenance, hazard insurance, snow and lawn care, trash removal… even water/sewer, heat, cable… it varies from association to association. It can be easier to be gone for periods of time, but association fees continue whether you are there or not.
- Condos and townhomes also typically have more restrictions… may limit the number of people in a unit, may have pet and/or rental restrictions.
This is an outstanding time to be buying a property, but whether as a home or an investment for yourself or a child it is only a good time if it makes sense for you. Do your homework… and consult with your trusted advisors.