In addition to finding the best mortgage and choosing the right suburb to buy into, there are three other primary issues you need to consider when looking to buy your first home:
1. Available government assistance
2. New home prices
3. Affordability – net benefits
What’s on offer?
The NSW and Federal Governments are funding first homebuyer schemes designed to assist people who have not previously bought a house to purchase their first home. At first glance the incentives seem attractive but in deciding to buy a new or existing home consideration should be given to what scheme suits your personal finances and circumstances.
To qualify for the benefits there are no income or asset tests and the grants apply to the purchase of residential dwellings only and not the purchase of vacant land, although transfer (stamp) duty exemptions are available for the purchase of land.
The total benefits available to first homebuyers depend on the value of the home to be purchased and whether it is an existing home or a new one. An example of the financial benefits on offer for first homebuyers is shown in Table 1. However, eligibility criteria apply to each 'benefit' on offer and are summarised in Table 2.
New home prices
There are no reported incidences of builders altering the pricing structures for new houses to maintain profit margins, while – at the same time – enticing first homebuyers to purchase with 'special offers', 'bonus upgrades' or 'free inclusions' in addition to the government grants on offer.
However, the opportunity is there for builders of new homes to create a twotier market through clever pricing and marketing. That is, one price for first homebuyers who are entitled to receive the government benefits and another for new homebuyers who are not.
If the price of a new home is merely inflated by the $24,000 on offer in the way of cash grants from the government, the first homebuyer is no better off and the objective of reducing the entry cost for new homebuyers will be lost. Under these circumstances, the builder receives the $24,000 and the homebuyer pays full price.
First homebuyers need to do their homework to ensure they are getting what they pay for and that their new home is priced correctly.
Affordability – by the numbers
At first glance, the first homebuyergrants seem attractive, but the question remains whether they provide a net financial benefit to the buyer. In addition, under what circumstances does the first homebuyer maximise the opportunity to buy their first home? Should you buy an established home or a new one?
The answers lie in the homebuyer's ability to pay (their income and level of savings) or the buyer's cash contribution to the purchase (deposit and purchase costs), the prevailing interest rate, the available cash benefits and the price of the home.
The only way to test which option is best for individual purchasers objectively – ie, whether to buy an existing home or a new one – is to do the maths. However, in addition to the 'objective' number crunching, buyers – especially when buying a home – have to contend with the subjective emotional aspects of buying, such as desire, quality and location.
Because each locality has its own market and property values (pricing) and because individual buyers have their own purchasing criteria and buying power, it is not possible to construct an example that suits all prospective purchasers. But, as a guide, Table 3 compares the numbers when buying an established home and a new one, while making certain assumptions (detailed in the table).
The comparison between buying an existing home and a new one indicates that the critical issue are:
1. How much the loan repayments represent of the buyer's gross income
2. The monthly repayments and whether there is sufficient buffer for the times when you may need access to cash from your income
3. Personal preferences in home location and quality
Applying the criteria adopted for the comparison, Table 3 shows that the net benefit, in the form of capital gain, after seven years of ownership (the average length of ownership in Australia), for a homebuyer who chooses a $420,000 new home is $269,285. The capital gain for a homebuyer who chooses a $300,000 established home is $191,278, or $78,007 less.
However, the new homebuyer has to contribute almost 35% of their gross income to annual repayments and there is likely to be little chance of having any cash spare for emergencies, rising interest rates or discretionary spending. In other words, there is a greater chance of 'housing stress' for these buyers, even with government assistance.
The established homebuyer has to contribute only 25% of their income to annual repayments, which equates to $9,843.36 less per annum than the new homebuyer. This buffer gives the established homebuyer an opportunity to make extra payments or have some cash available for emergencies, changes to interest rates or discretionary spending. The established homebuyer has more finance flexibility and is less likely to suffer 'housing stress'.
If the annual repayment savings are simply added up, without allowing for investment returns, the amount saved over seven years is $68,903 which, if combined with the capital gain, is a net return on the second-hand house purchase of $260,181.
Table 4 shows what happens if the buyer of the second-hand home uses the $9,843.36 available per year to make extra monthly loan payments. The loan is paid off in just 13 years and the capital gain after seven years is $281,535, compared to the $269,285 for the new-home buyer.
Some may argue that the financial difference between the two is marginal and not really a consideration when talking about the purchase of a new house compared to an older, second-hand one.
But you should not underestimate the hardship that the buyer of a second-hand home may be able to avoid, or at least minimise, if some unexpected event occurs that causes financial stress during the term of the loan, such as unemployment, babies, or the strain that worrying about money puts on a relationship.
In the end there are advantages and disadvantages to both buying an established home or a new one, some of which are indicated by Tables 3 and 4 and include:
New home purchase
• New home
• Little repair or maintenance required
• Possibly a more remote location
• Higher monthly repayments
• Higher proportion of income goes
• Additional costs of landscaping, driveway, fencing, paths
• Smaller to no financial buffer for interest rate increases, unemployment, children, discretionary spending
• Less opportunity for savings/investment
• Greater chance of housing stress
Second-hand home purchase
• Possibly better location closer to friends, family, services, transport and shopping
• Lower repayments
• Smaller proportion of income goes
• Established yards, fencing, paths
• Potential surplus income for extra loan payments, emergencies or discretionary spending
• Financial buffer for interest rate increases, unemployment, or children
• Greater opportunity for savings
• Less chance of housing stress
• Older home
• Need for repairs and maintenance