Should I rent or should I buy? When should I refinance my loan? How much should I spend on my dream home?
Here are 4 handy rule of thumbs that could provide with you the answers to your questions.
1. Rule of 15
Have you ever wondered whether it is wiser for you to rent or own a home?
Supposing monthly payments are the same for both options. On the surface, owning a home may seem like a cheaper option when you compare the duration of the payments of both options.
If you own a home, you only need to pay a limited period of time and the home is yours to keep. While if you rent a place, you may have to pay rent for as long as you live.
Unfortunately, the math isn’t as simple as it is. There are still many costs to consider if you own a house such as renovation, insurance and maintenance.
You also have to factor in your financial situation. Whether you are able to take up a housing loan, whether you have any other outstanding debts and whether you are able to afford paying for the home you desire.
If you are stuck in a dilemma, then this is when the Rule of 15 comes in.
The Rule of 15 states that it would be wiser to rent than buy a property if the annual rental payment is 15 times or less than the current purchase price of the property.
A 3 room resale HDB in Bishan is selling at $600,000
The annual rent of a similar property in the same area is $30,000,
$30,000 x 15 years = $450,000
$450,000 is smaller than $600,000
Thus, in this case, it would be wiser to rent first and wait till the housing price drops until $450,000 before considering to buy it again.
2. Refinancing/Repricing at 1% Rule
When should you refinance your mortgage? This rule only applies to bank loans.
This rule states that if the interest rate of your current bank loan can be reduced by 1% or more, then it makes sense to refinance or reprice your mortgage.
For example, if you have a 3-year fixed rate mortgage at 2.5%, if you manage to find a loan package of at least 1.5%, it’s time for you to refinance or reprice.
Do take note that most banks charge fees for repricing and refinancing, the amount depends on the bank.
3. 28/36 Rule
What is considered a housing loan that is affordable?
This rule estimates the amount of debt that can be taken by an individual or a household.
This rule states that a household should spend a maximum of 28% of its monthly gross income on total housing expenses and a maximum of 36% on total debts. That includes housing and other debts such as a car loan.
For example, if you earn a monthly income of $4,000, the maximum amount you should spend on your total housing expenses is $1,120 a month. The maximum amount you should spend on your total debt including your total housing expenses is $1,440.
That is another $320 for additional debt such as your credit card expenses.
This brings me to my next rule of thumb.
4. 3-3-5 Rule
This rule estimates how much you need to set aside for your property.
This rule encompasses 3 mini rules. Here is the breakdown:
1. Rule 1: 30% of property price:
Your initial capital should be at least 30% of the property’s asking price so that you can afford the downpayment, transaction costs and other miscellaneous expenses.
2. Rule 2: 1/3 of monthly salary:
Your monthly mortgage payment should not exceed 1/3 of your monthly salary.
3. Rule 3: 5 times of annual income:
The purchase price of property should not exceed 5 times of your annual income.
Let’s take a look at the example below:
Let’s say James and Mary have a total combined savings of $120,000 and a combined salary of $9,000.
Just to be conservative, we would then take the lower of Rule 1 and Rule 3.
In this case, the maximum purchase price of their property cannot exceed $400,000.
Also, note that if they are paying more than $3,000 for the monthly mortgage, they are overextending themselves.
Rule of thumbs are meant to be used as guidelines, not hard and fast rules to live by.
If you are new to buying properties, they can help you understand whether or not the property is within your means and if it is worth investigating further.
For a more detailed analysis of your finances and customised solutions, a Financial Advisor or a Real Estate Advisor who has knowledge in housing and personal finance would be recommended.
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