There’s no way around it: once you have bought a home, you have taken on another tax obligation. How much you pay in property tax depends on the value of your property and where you’re located. It’s always worth taking taxes into account when you’re house hunting. Bear in mind that areas with high property tax rates generally have a wider choice of amenities than those where you have a lower rate.
Even though some states in the U.S. don’t levy income tax, every single one has property taxes! This is because they are a vital source of revenue for state and local governments. As a resident, you want to ensure your community is well looked after.
The money gained from property taxes is used for infrastructure such as transport links, schools, colleges, and public safety. It makes sense then that the local counties that have the widest range of amenities and best quality schools are going to cost more in property tax than some other counties across the country.
There are different ways you can pay your property taxes:
- Pay an extra sum to your lender each month when you pay your mortgage payment. The lender places the funds in an escrow account, and pays the county tax authority on your behalf.
- Pay your property tax bill directly to the county tax authority and save for the bill on your own.
Local governments calculate the property tax owed based on a millage or mill rate, which is generally calculated each spring. The millage rate is a based on every $1,000 in assessed value of a property, and takes its name from the word mill, which is one thousandth of a dollar. For example, if your millage tax rate is set at 10 mills, you’ll pay $10 for every thousand dollars your home’s value is assessed at. You may also see mills quoted as a percentage; 10 mills being equal to 1.0%.
A property’s value is generally appraised by the municipality or county it is located in — the comparison between county appraisal and the property’s market value is known as the assessment ratio. The ratio is used to determine your property tax liability. The market value represents the figure you would achieve if you were to sell your property on the open market, whereas its assessed or appraised value is what the county believes your home is worth.
For example, if your property is appraised and assessed to have a value of $180,000 by your local government and its market value is $200,000, then the assessment ratio would be 90%.
It is possible to shelter a certain amount of your property’s value from tax if you’re eligible for a homestead exemption. This kind of tax relief is designed to give the biggest tax breaks to lower and middle income property taxpayers and is considered a progressive approach.
There are two broad types of exemption:
- Flat dollar — where a specific dollar amount from the assessed value of a home is exempted before a tax rate is applied
- Percentage — the same percentage tax cut is applied to all homeowners irrespective of income
Who is Eligible for Homestead Exemptions?
It is important to bear in mind that homestead tax breaks are only available to homeowners and not renters, although a landlord may receive the exemption. The exact criteria to qualify for homestead exemptions varies from state to state although several states restrict eligibility to taxpayers earning below a specified income level or who own homes worth less than a specified amount.
When you are making the biggest purchase of your life, you want to make sure you protect it with homeowner’s insurance. A standard policy covers your property’s structure and contents in the event of a destructive even such as theft, fire, or storm damage. Homeowner’s insurance also covers your liability as homeowner in the event someone is injured or damages something when visiting your home — this is referred to as a package policy.
Homeowner's insurance can be paid for using an escrow account that is funded monthly with your mortgage payment. The mortgage lender will pay the policy premium each year when it is due. It is important to review your homeowner's policy each year to avoid any excessive coverage.
Although most policies cover different types of disaster-related damage, there are a few exceptions. In particular, insurance to cover earthquakes or floods are separate policies, and damage caused by these so-called ‘Acts of God’ will not be covered in a standard policy.
There are also policies that will cover wear and tear on your household appliances. These are called home warranty contracts.
Remember insurance requires you to pay a premium, or a cost of the contract, and a deductible. The deductible is the set amount you have agreed to pay stated in the contract. If my home experienced a severe storm and my roof was damaged, I would to pay for the deductible first before the insurance would take care of any additional expense. In this example my deductible is quoted as a percentage in my contract.
If my home is worth $200,000, my deductible is 2%, and my damage is $30,000, I would pay 2% x $200,000 or $4,000 and the insurance would pay the remaining $30,000 - $4,000 = $26,000.
Life events can bring about a change in your financial position and create problems in your life that can be pretty hard to deal with. When you are in financial difficulty and own a property, there are some options available to you.
A short sale is one of the options available if you need to sell your home as a matter of priority. When there’s not enough equity in the property to meet your debts, you will most likely be advised to short sell it (you owe more than the home is worth).
Here are the basic qualifying factors for a short sale:
- You have to prove validity of your financial hardship and show that you are unable to meet mortgage payments
- The equity in your home is not sufficient to meet your debt obligation
- You do not have access to additional funds to meet the shortfall
- The lender, or lienholder, agrees to the sale, and accepts less than what is owed
When the short sale is complete, you are free and clear of the home with no further obligation. However, your credit score will suffer 100-300 points depending on the situation.
While a short-sale is preferable over a foreclosure, it is not always possible. If the property owner has other non-retirement assets, they could be seen as a means to cover the property's debt by the bank, and therefore, the owner would not qualify for the short sale. Another possible reason is that the mortgage was purchased by another lender. Mortgages are bought and sold all the time between lenders and if this happens in the middle of the process, the short-sale procedure stops.
Remember, short sales and foreclosures are a last resort. An owner must try their hardest to sell assets to pay off their mortgage debt to a reasonable level or find new ways to earn extra income to afford their payments. If they cannot do either, there are a lot of private real estate investors who can offer creative solutions that are legal, and will help protect the owner's credit and future ability to borrow funds.
When your home is foreclosed upon, it has been taken back by the bank because the loan was not being paid. Most owners don't volunteer for a foreclosure. If you find yourself unable to pay the mortgage, you should consider trying to sell the property first either on the market or to a real estate investor. Foreclosures will cause your credit score to plummet 200-300 points and can take many years to recover. It is never in someone's best interest to foreclose on a property. There are many reasons that may cause people to go into foreclosure, including:
- They have been laid-off, fired, or have quit their job and lost their income
- They are unable to continue working due to medical issues
- They have excessive and unmanageable debt
- Getting relocated to another part of the country
- The property requires maintenance work they can’t afford
Here are the lasting effects of foreclosures and short-sales?
- Credit Report: A foreclosure will show on your credit report for up to ten years, whereas short sales will appear for up to 7 years with the account marked "not paid as agreed". Typically owners in both scenarios are many months behind in mortgage payments therefore their credit suffers from the delinquency comments alike.
- FICO Score: A short sale lowers your FICO by as few as 100 points, if you can negotiate well with your lender, whereas foreclosures will lower your score by 200-300+ points for at least 3 years.
- Buying Again: After a foreclosure, you can’t get a mortgage for 5-7 years, whereas a short sale allows you to apply for another mortgage immediately assuming your lender marks your credit report favorably.
- Owing Money Later: When a short sale has closed, there is nothing more to pay. Conversely, a foreclosure can follow you around for years after you’ve left the property if your lender deems you owed more than the home is worth.
- Your Employment: A foreclosure and short sale can have a seriously negative impact on employment prospects who will check your credit history.
A homeowner's association is responsible for the upkeep of the neighborhood — parks, walking trails, sidewalks, pools, landscaping etc. If you are buying a home with a homeowner’s association or HOA, it’s worth knowing what they’re supposed to do and how much you’re going to have to pay for it. Sometimes, you can find the perfect property only to discover that the HOA is either completely negligent or charge astronomic fees and so you need to ask the right questions.
An HOA is set up for owners of condos, townhouses or freestanding homes that are set in a planned community. The more community amenities that are available where you buy your property, the more you are going to have to pay for the privilege of living there!
Your HOA fees will also cover all the necessary insurances to protect both residents and visitors to the community. Fees can be around $200 to $300 per month or in a planned community they are paid annually $500-$1,000+, depending on amenities and the size of your home.
Your HOA needs to have sufficient money to maintain, repair, and operate the communal areas in accordance with its governing documents. When you purchased the HOA property, you will have agreed to pay an assessed amount towards the upkeep of your property’s surrounding areas. This money is kept in an HOA Reserve Fund.
Although the board of your HOA will have a pretty accurate picture of how much they need to take care of the cost of the development’s upkeep, there may be extraneous expenses. Say for example there’s flooding in the clubhouse and work has to be done to repair it. When unexpected expenses arise such as this, your HOA has the right to impose a special assessment so that they can get the funds together to meet the improvement cost.
Most lenders take HOA fees into account when they are assessing your application and they will endeavor to ensure your repayments are affordable with them included. In the majority of cases, lenders will not provide a mortgage to people they consider have the potential to fall behind with their fees and will test affordability ahead of granting approval.
Usually, HOAs are very quick to react when a homeowner misses just one payment and they will generally send a letter saying that there is an outstanding debt. This letter will probably outline the process for failing to pay your fees and there are some fundamental steps that are most likely to take place in this scenario. In most cases, homeowners who have fallen behind with HOA fees will lose their rights within the community and they can also expect to see their debt growing, impacted by interest charges until they’re paid off. The worst it can get is for the HOA to put a lien on your property so that they will get paid back before you receive any money if you choose to sell.
Once you’ve bought your home, what do you do next? Here are some ongoing items to think about as a homeowner.
When you’ve used a significant portion of your savings, and taken on a mortgage to secure your home, it’s obviously worth taking care of! When something breaks or goes wrong, there’s no landlord to call to fix it — it is all your responsibility. The problem is that small issues, such as a leaky pipe, can become big costly problems quickly. If you have a regular maintenance program and make sure you get repairs done as needed, you’re less likely to have large unexpected costs down the line. It will also be a stipulation of your homeowner’s insurance that you keep your property in good order but, ultimately, it’s in your own best interest to do so.
The papers you received when you closed the deal are very valuable and you’ll possibly need them in the future. For that reason, you need to find the perfect place to store them — one where you won't forget the location. Consider scanning them and saving on an electronic drive as well.
In the short term, these settlement papers will be used to determine your tax deductions for the year you bought your home and in the future, they could be needed to calculate estate taxes.
Before moving in, find out who all your providers are for any utilities in your new home. Things like water, sewage, gas, internet, and electricity services need to have been paid by the previous owner before you move. You need to transfer all your utility bills to your name so that you can make payments directly from your bank account. Keep copies of your utility bills easily available because it can be used as proof of residency; for example when turning on an internet services, registering a child for school or local sports, etc.
Make sure you have all the right insurances to protect your new asset and everything inside it. Just after moving-in is a good time to go around your home and take an inventory of your possessions for insurance purposes. Store these pictures and details in a safe place. You can also use this opportunity to take a look at any small maintenance jobs that need doing sooner rather than later. You want to protect your asset’s structure so that you have a roof over your family’s heads for years to come.
The question of whether to rent or buy is something a lot of people ask themselves. As with any major decision, it’s a good idea to know the pros and cons of home ownership before making the next move.
- If you finance your home with a loan, when it’s paid off, your home will be yours! When you’re mortgage-free, you will only be required to pay for insurance and taxes each year
- Your home will more than likely increase in value over time, giving you the option of upscaling at some point in the future
- You can improve your home in any way you wish, without seeking approval from your landlord. Be aware, planned communities would require permission for paint colors and any other structural changes first.
- You can borrow against the equity from your property to fund a one-in-a-lifetime holiday or new business
- You have the option to become a landlord yourself, (subject to your lender’s agreement)
- Sometimes mortgage repayments can be cheaper than rent
- It’s a long term financial commitment that you need to be sure you can afford
- If interest rates go up, any adjustable or variable loan repayments will increase
- Selling your home may not be easy, depending on market conditions
- Dealing with a jointly-owned property if there’s a breakup can be complicated and stressful
- You need to be able to afford to maintain your property regularly
- There is always potential for the value of your home to fall, in which case you might be unable to sell it
- Meeting mortgage repayments may take preference to eating out and family vacations
- If you are buying an HOA property, you will have additional expenses you wouldn’t have if you were renting
The NYTimes has a great calculator on whether it is more economical to rent or to buy. It takes into account several different factors including mortgage details, taxes, closing costs, maintenance and fees, etc.
Check out the calculator here: Is It Better to Rent or Buy Calculator.
Although buying a home can sound a little overwhelming, it is one of the most rewarding experiences you may experience. Having a property as an asset is a good base to build your net worth on, and you may choose down the line to use it as rental income in retirement.
Ultimately, affordability is the issue for most people looking to buy a home. Without a crystal ball, it’s just not possible to see into the future and determine if you’re likely to have enough money to meet repayments in ten years’ time. The best approach is to get a complete picture of your financial position using a budget and think about how it might change in the future; jobs, interest rates, going from two incomes to one, new expenses, etc. Working together with your financial adviser and your lender to determine the right time and purchase amount will help you feel confident about your decision.