As markets fluctuate from vendor to buyers’ markets, the pressure can be on to buy a home as a first home buyer to make the most of the lowering house prices and increased potential capital gains in the long term. However, this rush to buy can mean you make some fundamental first home buyer mistakes.
Should you buy an investment property first?
Author of the Barefoot Investor, Scott Pape, says that buying an investment property first as a first home buyer can be risky. “The upfront and ongoing costs of owning a home take years to recoup,” he says. The pressure on your finances can be high if you are paying both your own rent and a mortgage, which is why many economists and advisors believe that rentvesting is a common first home buyer mistake that has developed in popularity over the past 20 years.
This is a murky area and pundits sit on either side of the fence. There are those who have built up their wealth and found significant financial freedom through what they call ‘rentvesting’. They buy an investment property and lease it out while renting the home in which they live. They then build on this as an investor until they have the equity in their portfolio to buy their own home. This may be an achievable scenario in a financial system that promotes investor lending over any other (which the financial system has done until recently), but loading up your investments as a way to accrue the wealth just to buy a home to live in is generally not a great idea. High frequency investing is high risk, as it is susceptible to the market. Generally, the more traditional view of buying your first home before you become an investor is the safer option.
Not understanding the types of loans available
It is important to know what sort of home loan suits your budget and needs, as well as how you will service it and what option you have in the future to shape that loan to your advantage. One of the biggest first home buyer mistakes is not understanding the details of a loan. This has led many Australians into financial agreements that don’t reflect the realities of their personal financial capabilities. A loan does not necessarily have to stay in the form you originally signed up to, so explore what the life of your loan will look like if you decide to borrow on your equity, change to an offset-loan or change lenders (i.e. what will the costs be?).
You ideally want to have a 20 per cent deposit in your hands before looking for properties. If you don’t then you are required to take out Lenders Mortgage Insurance, which insures the bank, not you. Lenders Mortgage Insurance is usually added to your mortgage, but in some cases if you want to change lenders later on, LMI can be reset.
If you are saving with a partner, be efficient in your budgeting and try to live off one person’s income as a partnership. If the other person’s income of, say, between $60-70,000 per annum is saved just for a deposit, within two years you may have a 20 per cent deposit for a range of different dwelling types. Remember that there are hidden costs of buying a home, so you need to account for these in your saving.
Not becoming a property expert
This is the single largest financial decision you will ever make in your life. Why would you not become an expert in the very product you want to buy? People research ten different phone brands before they buy a phone, becoming experts in the different battery types and screen resolutions.
Do you know what the state of the local market, your city market, your state market and the national market has been over the past one year, three years, five years and ten years? A thorough understanding of the fluctuations in the market and the forces that shape these fluctuations (wage growth, inflation, supply vs. demand, foreign investment, oil prices, energy investment, government policy, unemployment, population growth, and more) are fundamental to knowing whether a property you are interested in is overpriced or not, whether you will likely see a dip in its value over the next three years and if so, whether that will effect your cash flow during this period.
Buying at the edge of your financial limits
Spreading yourself too thin before you have even started is a common mistake for inexperienced first home buyers. Aim lower and have lower expectations. Ask your parents where their first home was. Was it in the outer suburbs, perhaps? Or in a small apartment or run down home they renovated over ten years? Do you have memories of your parents ripping up floors, building decks, swinging from the rafters trying to paint cornices? First home buyers need to know that property is the longest term game there is, you may not have your ‘dream home’ for another twenty years.
As far as avoiding first home buyer mistakes, ‘cash flow’ is an incredibly important thing to consider before investing in a home. Borrowing at your financial limit is a great way to make your cash flow disappear and place you in risk of significant financial stress.