A Suze Orman exclusive

The Down Payment: Don't Fall for the Zero Down Trap
I was once on a national TV talk show to help people determine if they could afford the house they wanted to buy. A woman on the show told us she had spent the past two years hunting for her dream house, which was in the $800,000 price range. My first question for her was how much money she had for the down payment. I was dumbfounded when she told me she didn't have any money saved up. She went on to tell all of us that her real estate agent said that was just fine, since plenty of lenders offered "zero down" mortgages.

Yes, and just because you can smoke a pack of cigarettes a day doesn't mean you should. My friends, for many of you zero down loans could be a really bad idea. Notice I say many of you and not all of you. It is true that sometimes it works out just fine; things fall into place financially and you wind up happy you bought that home of yours even if, at the time, it was a real stretch. But too often that is not how the story ends. That's why, even though real estate for the past few years has been one of the best investments out there, I don't think you should buy right now if you can't afford to make at least a 10 percent down payment. And the reason I think that is really quite simple: if you haven't had the wherewithal to save up for at least a 10 percent down payment I have to question whether you are ready for the financial responsibility of owning a home. Especially at a time when the job market hasn't really picked up, thanks to all the offshore outsourcing. There's a good chance we may see real estate level off from this point, rather than continue to climb higher and higher.

Here's the issue: the biggest challenge with owning a home is not the down payment. The big challenge is being able to afford the monthly mortgage payments. The word in the sentence to take note of is monthly. You need to have that money each and every month. If you make no down payment, or a small down payment, your monthly costs are going to be much higher. Never forget that it is one thing to buy a home, but it is another thing to be able to keep that home. Let me remind all of you that there are now more homes in foreclosure than there have been in the past 40 years. Yet 100 percent of the homeowners now in foreclosure once qualified for a mortgage. So you can see the issue is not getting the mortgage; it's all about making sure you can truly afford the mortgage and the other costs involved with homeownership, month in and month out.

Rent is not a Mortgage Payment
Let's assume you currently are renting for $1,100 a month, and you now have your sights set on owning a home with a $200,000 price tag. You put $20,000 down and qualify for a mortgage of $180,000. On a 30-year fixed rate mortgage you're looking at an interest rate of six percent these days. That works out to a mortgage of about $1,079 a month. You're thinking, "Wow, this is a piece of cake. If I can currently afford $1,100 in rent, I can certainly afford a $1,079 mortgage." Stop right there. Do not pass go. I cannot tell you how wrong you are.

The base mortgage is just the beginning of your housing costs. On average you need to add another 40-45 percent to get a more realistic total monthly cost. Yes, you read that right: 40 to 45 percent. So if your mortgage payment is $1,079, the true total cost is about $1,519 per month. Let me show you how the costs pile up.

When you buy a home you owe property tax on its value. If the house is worth $200,000 and the property tax in your area is about 1.25 percent, that is a total of $2500 a year or about $200 a month. You also need to have homeowner's insurance. That can run you $25 per $100,000 of value, or, in this case, $50 per month. And if you make a down payment of less than 20 percent, you are also going to be stuck paying Private Mortgage Insurance. That fee runs about $45 per $100,000 of mortgage. If we assume a 10 percent down payment on our $200,000 house we're talking about $90 or so a month in PMI costs. (Yes, there are ways around PMI but those will cost you too, so just stick with me here while we do the numbers.)

And we're not done with the "extras." Let's not forget all the costs of keeping the house running. Plumbing on the fritz? There's no landlord to call. If you want it fixed, it's going to have to be on your dime. So you better plan on having a reserve fund sitting around to cover repair and upkeep costs for your home. My advice is to plan on about $100 a month for that repair fund.

Add up all these costs and you're looking at a total net housing cost that can indeed be 40-45 percent more than the base mortgage. In this example it's $440 per month more than the $1079 you were thinking it was going to cost you. Yes, yes, I know what you're thinking now: What about the tax savings, Suze? Isn't that going to bring down my real costs?

The Tax Break is NOT a Reason to Buy
Listen, I will be the first to tell you that I think homeownership is the absolute best investment out there bar none. However, I want your home to be a source of joy for you, not a pain in your financial you-know-what. But I constantly hear from so many renters that the reason they want to buy a home is so they can get the great mortgage interest deduction. This makes me a bit nuts. For while it is true that interest payments on a mortgage below $1 million are tax-deductible, that alone is not a good enough reason to buy something that you may not be able to afford.

First, right now our income tax brackets are at 40-year lows. If you are in the 20 percent tax bracket that means you will only get a 20 percent break on your interest payments. Let's just look at a $1,079 monthly mortgage. The total interest payments in the first year will be about $10,740. Your tax savings (20 percent of $10,740) is $2,148. Or about $180 a month. As I showed you earlier in the article, the cost of your property tax, homeowners insurance and private mortgage insurance, plus your inevitable maintenance costs, is probably going to set you back about $440 a month - about $260 more a month than your tax savings. Hey, even if we were to increase your property tax deduction another 50 bucks a month, just to be on the safe side, that's still more than $200 extra you will have to find a way to come up with each month. Now maybe that doesn't sound like a lot, but for many of you it can be. And those extra costs should be factored in when you are deciding how much home you can really afford. You might need to come down a little in price. Every $10,000 you come down in the mortgage cost will reduce your monthly payment by about $50.