The unforeseen costs of buying a home

Homeownership is an exciting yet complicated decision that requires adequate financial preparation — it involves more than just a good credit score and a hard-earned down payment. There are lesser-known additional costs to consider when buying a home that people often neglect to take into account.

C.J. and Madeline Holler, a software developer and marketing strategist based in Chicago, are ready to start looking for their first home but want to make sure their finances are in place. Tonya Rapley, creator of My Fab Finance, gave them the tools to begin their homebuying process by highlighting some of the unforeseen costs associated with purchasing a home.

Earnest money

Once you find a home you love and decide to submit a contract to purchase the property, you’ll also present earnest money to show what’s called “good faith, which essentially means you intend to follow through with the deal. Earnest money discourages potential buyers from making simultaneous offers on multiple properties just to weigh their options.

The amount of earnest money required varies by state and local market rates. For example, $500 to $1,000 might be sufficient in a slower housing market, but if the owner is receiving multiple inquiries about their property, you may need to make a larger deposit (closer to 2% to 3% of the offer price). If the offer is accepted, the earnest money you put down goes toward the purchase price of the home.

Be mindful of potential earnest deposit scams. To protect your deposit, make sure you receive a receipt and confirm the deposit is payable to a reputable third party, such as a well-known real estate brokerage, legal firm, escrow company or title company.

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1. Your Mortgage Might Exceed Your Rent

One reason for renting is simply that it's cheaper than owning a home. In fact, a recent GOBankingRates study of rent and mortgage costs found it's cheaper to rent in 11 states across the country, plus the District of Columbia.

If you're weighing your options, Barton suggests totaling all rent costs — including the monthly rent payment, deposits, pet fees and service charges — and then comparing that figure to the total mortgage payment on an equivalent property. That will help you determine whether owning a property is really more affordable.

2. Property Taxes Can Be Sky-High

If you live in a state with high property taxes, homeownership could be less affordable than renting — even if average mortgage costs are lower than average rents. There are things every homeowner should know about property taxes.

According to the Tax Foundation, the three states with the highest property tax rates all exceed 2 percent, with New Jersey at 2.35 percent, Illinois at 2.3 percent and New Hampshire at 2.15 percent. At New Jersey's median home value of $315,900, that means paying $7,423 in property taxes.

Keep in mind, though, that renting might not save you completely from high property taxes, since some of those costs likely will be passed on to you by the owner of your unit. Luckily, as a renter, you can often find a cheaper place to live if your landlord bumps your rent too high.

3. You’ll Have to Buy Homeowners Insurance

Homeowners insurance varies depending on what insurance company you use, how much your home is worth and the claims history in your area, among other factors. But whatever your situation, insurance will cost something — and it's just another cost to tack onto your cost of living.

"Homeownership is a long-term financial commitment," said Jose Tijam, a realtor with Grand Avenue Realty & Lending in California. "Your lender requires you to insure your property, and typically you have to pay insurance premiums along with your mortgage payment."

4. The Market Is Volatile

Is the U.S. on the verge of another real estate bubble? Maybe not, but in 2007, many homeowners found out the hard way that housing prices can be variable. Homeowners who bought at the peak in 2006 faced huge losses in 2008.

Home values and costs are variable depending on market fluctuations. That means you might spend more money on your home than it will be worth when you’re ready to sell.

"There’s no guarantee that your home will increase in value over time," said Tijam.

5. Maintenance Can Break Your Budget

Will you be able to pay to replace the furnace if it breaks? Can you afford to repair or replace the roof if it leaks?

Some experts recommend you set aside 1 percent of the purchase price of your home each year to pay for maintenance and repair costs. That amounts to $3,000 every year, if your home cost $300,000. If your home is older, though, you'll want to set aside even more.

Renters, on the other hand, get to call their landlords to handle repairs around the unit. When you sign your lease, you can even ask for a fresh coat of paint, which, for the average home, costs $2,764, according to HomeAdvisor, rather than hiring painters or going the DIY route.

While some of these costs might be passed on to you as a renter, it likely won't be until it's time to renegotiate your lease. But the cost isn’t necessarily the worst part of required homeownership maintenance.

"If you don’t want to do yard work, renovations and upkeep, renting might be the best option for convenience," said Barton.

6. Selling a Home Is Burdensome

Nobody wants to be saddled with an extra mortgage or home they can’t afford. Renting allows the flexibility to leave if your financial or life situation changes. But if you own a home and have to leave for any reason, you’ll end up having to pay for that home — mortgage, taxes, maintenance and all — until you’re able to sell.

If you’re not planning to stay in the same place for more than a few years, you should rent to avoid serious financial problems, said Deb Tomaro, a broker associate with RE/MAX Acclaimed Properties in Bloomington, Ind.

The worst time to buy is when your job or life situation is unstable. For example, Tomaro said she worked with a client who was going through a divorce and was set on buying a new home immediately after moving out of the marital home. An unstable period like that isn’t the time to make such a huge financial decision, she said.

“I know he’s going through a tough time in his life, but he doesn’t have the same excitement about the home-buying process that most people have, and that is disappointing to me," she said. "That’s usually a sign that it’s not quite the right time to buy."

hand holding drawing house, blue arrow and dollars

8. Your Down Payment Could Earn More Elsewhere

Historically, buying a home isn’t the best performing investment for your hard-earned cash, appreciating at only 3 percent per year. On the other hand, since its inception in 1926, the S&P 500 has returned an average of 9.8 percent per year, according to CNBC.

Yes, both stocks and homes can also lose value. But, with stocks, when you sell, at least you can deduct the loss on your tax return. You can’t deduct the loss on the sale of your home if the market tanks.

9. A Mortgage Might Not Lower Your Taxes

Mortgage interest only reduces your taxable income rather than your tax bill, so the amount you save depends on your marginal tax rate. For example, if you fall in the 25 percent tax bracket, you’ll save 25 cents in taxes for every dollar you pay in interest. Plus, to claim the mortgage interest deduction, you must itemize your deductions. This means you must give up the standard deduction, which is $6,350 for singles, $9,350 for heads of household, and $12,700 for couples filing jointly. Other itemized deductions include state and local income taxes, real estate taxes and charitable contributions. So, your mortgage interest deduction only reduces your tax bill to the extent that your itemized deductions exceed your standard deduction.

10. You Might Not Be Able to Move

If you need to move for any reason, whether your company relocated you or you just found another house or neighborhood you like more, expect to pay a 5 percent or 6 percent commission to the real estate agents, plus potentially chipping in for closing costs, depending on your market. For example, if you have to sell your $200,000 home, even if you can get full asking price, $12,000 plus closing costs will be deducted, which could easily offset any short-term savings of renting. Plus, if you are offered a dream job — or even just a better opportunity — in another city, you might have to turn down the opportunity if you are tied to a house you can't sell.

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Mortgage reserves

Another overlooked financial component of the homebuying process is a “reserve fund.” This refers to your personal financial reserves, which are accessible liquid assets available to withdraw from after your mortgage closes, if needed. Requirements vary from bank to bank, but reserve funds generally serve to demonstrate to the lender your ability to maintain sufficient amounts of income to continue making your mortgage payment should you encounter a tough financial setback, such as job loss or a medical emergency.

While not all lenders require proof of financial reserves, some do, so it’s best to plan ahead in case it becomes a fundamental step in your home buying process.

Inspection fees

We’ve all seen the home repair shows: Renovations are going fine until an electrical or structural issue upends the entire process and demolishes the budget. Homes are complex structures, and despite curbside appeal or magazine-worthy improvements, things aren’t always like they seem. Mortgage insurers don’t require a home inspection before closing, but it’s suggested you have one.

According to the U.S. Department of Housing and Urban Development, typical home inspections cost between $300 to $500 and vary based on size and location. Inspections are important, as existing homeowners may not be forthcoming about issues with the home or might not be aware of problems that could be costly to repair. A couple hundred dollars spent on an inspection can potentially save you thousands in the long run.

Closing costs

When finalizing the purchase of your new home, you’ll likely be responsible for paying the expenses that occur when a home is transferred from the seller to the buyer, also known as closing costs. These costs are over and above the home price and cover things like notary services, title company search fees, attorney expenses, real estate transfer taxes, insurance premiums and more. Sellers will also cover portions of closing costs.

Closing costs vary by state and the value of the property, but typically fall between 2% and 5% of the purchase price. You are expected to have the funds to pay for these expenses on the day of closing. A majority of fees included in closing costs are actually negotiable, and you can shop around for lenders who offer incentives in the form of lower fees at closing.

Moving costs

Moving costs are frequently forgotten in the homebuying process, but they’re no less important. These costs vary based on your circumstances, but even a crosstown move can be costly, so be sure to factor in the expense of hiring a moving company or renting your own truck. Chances are you’ll also purchase new furniture, decorate your new space and spend money on other household necessities, so don’t forget to estimate these costs before you sign on the dotted line.

Every move is unique, but it’s better safe than sorry to independently assess your situation and pad your moving budget with extra dispensable cash in case of unforeseen costs.

Maintenance costs

Homes require maintenance and upkeep, whether from basic wear and tear or unexpected events like environmental damage. The older your home, the more work you’ll likely be responsible for over time. Unlike with rentals, it is 100% your responsibility to repair any issues that arise with your home, so it’s wise to ensure you have the resources on hand to deal with any unexpected costs or emergencies. One popular rule is to set aside 1% of your home’s value per year for maintenance expenses. For example, if you end up buying a $250,000 home, you should make sure you have $2,500 on hand annually for these purposes.

Regardless of the unavoidable financial splurges, purchasing a home is an exciting experience and one of the most important investments you can make. The smarter you save, the more comfortably you can live in your new space. Get ahead of your finances and proactively prepare for both predictable and unpredictable spending, because an informed homebuyer is a confident homebuyer.

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