Buy Now With A Subprime Loan, or Wait?

There is a question that we get all the time, and seems to be the most pressing issue of all of our web site visitors.

Question: "Should you buy now with a subprime loan (higher interest), or wait until your credit is good so you can get a prime rate loan?"

For this example, let's say the home value you buy is 100,000 just to make it easy. If homes in your area cost 1.5 times that, then you know how to adjust the numbers. And let's say that homes appreciate (rise in value) by 6% per year average. Interest rates vary, but as of this writing, the best rates are about 5-6%, and subprime loans (bad credit loans) are about double that rate, or 10-11%.

Home value at purchase: $100,000
Annual interest rate: 10%
Annual appreciation average: 6%

Now let's see where you may be in 2 years. The home has appreciated by $6,000 the first year to 106,000. (100,000 * 1.06). The second year, it appreciated by $6,360 (106,000 * 1.06) to now be worth $112,360. So, you are $12,360 ahead so far.

Let's not even factor in your debt reduction you paid as you made the payments because that is a small amount.

You must subtract the extra interest you paid because of your bad credit. If the best loan rates are 5%, and you are paying 10%, then your premium, or surcharge is 5%. This is your cost of having bad credit.

Assuming that you had put down $10,000, your loan was $90,000, so you paid $4,500 extra the first year, and about the same the second year, for a total of $9,000 extra. Figuring the cost of refinancing is about $3,000, then you will be just about even at this point. That means that your extra interest payments have been canceled out by the growth in the property value. That is pretty good.

But there is more... your tax savings. Your interest paid for the two years is about 18,000 ($9000 per year x 2), and you should save something on your taxes, probably about 4,500. That would be money in your pocket. So now you are 4500 ahead. You should also discover that as a homeowner, your auto insurance is lower, and there will be other areas that you discover savings because of your home ownership.

So, while this is a hypothetical scenario, it could be how things turn out. Property values do tend to rise about 6.4% per year over the long term. And someday, your home will be paid off. Starting now means that the payoff date is at least 2 years earlier!

But suppose you wait. What are you waiting for, exactly? Ahh, you want to improve your credit. So, you are going to recover from your bad habits of paying late, and clean up your credit file, all within 2 years? And you will save your money for a larger down payment as well?

Hmmm. That sounds like quite a big leap there. Lots of things can go wrong. Even if you pay on time, you still have bad credit in your file for many years. What you need is a "power method" of putting good credit in your file.

That method, my friend, is paying on your home, like the first example, and paying every payment early or on time! There is no better way to build your credit. And you will be building your property value at the same time.

There are lenders just about everywhere who can lend to you even if you need a bad credit loan, or a subprime loan. Just do a search online. If you don't find one that you like, drop me a line here, and I will refer you to a firm that can help, or may perhaps be able to finance the property for you through our firm.

Answer: "In today's economic climate, you should be lots better off buying now, even if you do have to take a 'bad credit loan'."

I hope this quick analysis makes sense to you, and you appreciate the fact that "today is better than tomorrow". With today's combination of low rates, and high appreciation, today is the way to go.

Best regards,

Ken Chipman

P.S. To build your credit, purchase the house and hold it for two years, making all the payments on time or earlier, with a cashier's check or money orders, keeping all the receipts. Use these search terms to find real estate lenders who will work with your existing bad credit:

Subprime loans
Bad credit loans
Easy home loans
Easy home financing
Finance home bad credit

Just be sure that your loan is "simple interest" and NOT precomputed based upon the "Rule of 78" method! Precomputed loans are usually made by "finance companies" and consumer lenders. I have paid off so many of these loans for my customers, that I can tell you, do not get a precomputed interest loan! We use only simple interest loans when we finance our buyers, and you deserve the same thing.