3 Mistakes Homeowners Shouldn’t Repeat Since The Last Housing Bubble

Home values ​​have risen rapidly throughout the pandemic. This came as mortgage rates hit record highs and the supply of properties was limited because many people did not list their homes as COVID-19 surged. Although mortgage rates have risen significantly this year, it hasn’t cooled the market much, leading some to believe there is a real estate bubble.

Whether the market is indeed in a bubble or not, there’s no denying that home prices are high right now and many homeowners have substantial equity in their current properties. When these conditions were present in the recent past leading up to the implosion of the housing market in 2008, many people made big financial mistakes. Owners should aim to avoid these mistakes this time around. There are three big mistakes in particular to avoid. Here is what they are.

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1. Tap into your home equity

Many homeowners looted their home equity during the last housing boom. People borrowed not only to renovate their homes, but also for unrelated purchases, such as vacations. Second mortgages were readily available for large sums because property values ​​rose so rapidly and homeowners rushed to take advantage of the opportunity to borrow a fortune.

The problem is, taking too much money out of your house is a high-risk move. Not only could you increase the risk of foreclosure due to your extra mortgage payments, but you could also have difficulty selling in the future if property values ​​drop. This is exactly what happened to many people when they borrowed against the maximum price of their home and ended up owing more than the home was worth after the market collapsed.

Now, borrowing against your home’s equity isn’t always guaranteed to spell disaster. Home equity loans are a type of low interest rate debt. If they can be used responsibly, they can give you the opportunity to improve the value of your home or achieve other important financial goals such as debt consolidation.

The key is to make sure you leave plenty of equity in your home so that you don’t owe more than the value of the home, even if the value of the property drops. And you’ll want to make sure the loan is necessary and ideally designed to improve the value of your home, since you are endanger your home.

2. Buying a house you can’t really afford

If you’re eager to buy a property and prices are high, you might find yourself applying for a home loan that’s a bit over your budget simply because you’re so desperate to find a property that’s right for you. Unfortunately, when you stretch out to buy a home, you run the risk of not being able to make the payments if something should reduce your income or you face unexpected expenses.

Stretching to buy a home can also cause problems in an economic downturn. You could see your income decrease and your real estate values ​​plummet at the same time, leaving you stuck in a home you can’t afford and can’t sell for what you paid.

To make sure you don’t borrow more than you should, most experts recommend keeping total housing costs to no more than 25% to 30% of your income. Following these guidelines can help you avoid becoming “housing poor” or unable to meet other financial goals.

You may also want to “practice” making your housing payments if they are more than your rent. So, for example, if you’re currently paying $1,000 a month for housing, and you’re planning to buy a house that would cost you $1,300 a month, put that extra $300 a month in a savings account for a few months to make sure you’re comfortable not having that extra money.

3. Take out a mortgage at an adjustable rate

Finally, during the last housing bubble, people were eager to buy homes because they thought property values ​​would go up forever – and many took out adjustable rate mortgages (ARMs) to do just that.

Adjustable rate mortgages may initially be easier to obtain and may make it easier to buy a home seem more affordable up front. This is because the starting rate is usually lower than the rate for a 30 year mortgage. The problem is that this rate is not guaranteed for very long, generally between three and seven years. After that, he can adapt, by modifying the amount of the monthly payments and the total cost of the loans.

When you take out an ARM, your rate is usually linked to a financial index such as the prime rate. This means you can try to predict how payouts might change by looking at the historical performance of this index. But, of course, you can’t be sure what the future holds.

However, there is usually a cap on how much your rate will increase over time. This cap is usually around five percent, which means your rate could go up significantly. Some lenders have even higher limits. If your rate goes from 3.5% to 8.5%, that would mean paying $320 more per month for every $100,000 of mortgage debt you have.

As you can see, if rates go up, your mortgage payments could quickly become unaffordable with an ARM. And if rates are much higher or home values ​​are much lower in the future when your rate begins to adjust, you may not be able to refinance a new loan that is within your price range. So if you’re considering an ARM, you’ll want to make sure you can comfortably afford even the highest payment possible.

You don’t want to end up with a house that’s a financial albatross or face foreclosure because you’ve stretched too thin to buy a property. As these are all huge risks during a housing bubble, it is important to do everything you can to avoid falling into these pitfalls so as not to jeopardize your long-term financial situation.

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