Hey, everyone, thanks for joining. Today I will be speaking with Jason Sharon. He is the owner and broker of Home Loans Inc. Today, we will be discussing the most effective ways to use a mortgage. We will cover topics like PMI and debunk some of the myths surrounding them. We’re also going to talk about ways to transition your wealth, using mortgages for your children to help them out in a more effective fashion than a simple cosign. So we will break those things down and encourage you to use some of the ones that apply to you to help grow that wealth. I’m not saying implement them all. They’re not for everyone. But if you use them effectively, they can be great wealth generation tools.
Who is Jason?
Jason Sharon is the broker and owner of Homeowners Inc., a small boutique brokerage in Charleston, South Carolina. Within the brokerage, there are about 25-30 employees.
Jason was recently recognized by Forbes.com for one of the three mortgage books he has written. They interviewed him and published an article that he wrote on artificial intelligence in the mortgage industry. He was on the Best Lender list for MONEY.com last year and was featured by Yahoo Finance and several other mortgage-specific industry periodicals.
Jason’s thoughts on Private Mortgage Insurance (PMI)
PMI is money someone pays every month that will protect the lender in case of default. Most people think that PMI is money they spend that doesn’t offer them any protection; however, it is very cheap insurance and can teach you how to leverage. He explains that you could have a larger down payment and have no PMI but, if you use a smaller down payment and had PMI with the money you saved from the down payment, that could produce more income for you than the cost of PMI.
Do you need PMI / What is the threshold?
The PMI threshold is 20% down or 80% equity in the property of a refi. If this is the case, you do not have Private Mortgage Insurance (PMI). However, suppose you went and purchased a typical conventional minimum down payment of 5% (most common) on a $400,000 house. In that case, that will equal out to 20,000, meaning you will have PMI.
How does your credit score affect PMI?
If you have decent credit (700+), then your PMI is likely 0.25-0.35 per year, which is roughly $80-$100 per month. Say instead of putting down 20% of $40,000, you only put 20,000. Now you have $60,000 that is not going into the house, which they could take and invest it with you, which in turn will make them more than $80 a month. So you ask yourself, what is the highest and best use of your dollar? Do you want to just give that money to finance tuition and have insurance equity in your house? It is not like you give it away, but could you use that money and make a lot more out of it?
Offering a Counterpoint
People may think that if there is a 0.25 PMI in addition to a 3% mortgage rate, that will be 3.25% that is compounding interest. However, a 20% down mortgage versus a 5% down mortgage is only roughly ⅛ of a difference. Now, if you have it to where you are putting 30%-40% down, then you will see a significant change. On another note, investment properties are a different scenario. That is because there is a minimum downpayment of 15%-25%, which results in a significant difference in interest rate.
Parents Who Want to Help Their Children
If you have a private residence with some money to invest and you want to help your adult children, then you can “gift” them money. Gifting on a mortgage is completely different from IRS gifts. Say your child buys $4000 on a house and qualifies based on their income, then if you gift them 5%, you would give them $20,000. They would invest that $20,000 into that house, get their payment, and live there. That means they are gaining equity by making their payments. There may be some PMI, but the house is growing.
Historically, a house will grow 5%-10% per year (this year, it hit 18%.) So, if you take that $20,000 and leverage $400,000 worth of debt, then that house is worth $480 off of a $20,000 investment. However, you pay down the principal a bit. So, suppose you leverage that and start buying investment properties. In that case, you are making some rental income on it, and you are getting some payment down on the principal.
Joint Accounts / Capital Gains
When parents give to a joint account with their children, then any money made is taxable to the market. However, many ask where the tax headwinds and where the tax tailwinds? If someone were to take $20,000 and earn 20%, then there is no leverage in it. It will grow 20%, and then they would have $24,000, but that money is taxable. Typically, the income that comes in will be fully taxable, and there will be capital gains since real estate is always going up.
For example, in Los Angeles, if parents bought a condo when their child was a freshman in college and sold it when their child was a senior, then there would be four years of appreciation. Since there is a $250,000 tax break per owner, it would pay for the student’s college tuition. This is a great way to get a tax tailwind with an investment instead of a tax headwind if you are putting it directly into the markets and leveraging debt.
If you have lived in a house for at least two of the last five years, then $250,000 (or $500,000, if you are a married couple) is not 72 capital gains. So, if you bought the house and financed it with your child or paid cash for it, either way, you bought it for $250,000 and sold it for $300,000.
Deeds and Trusts
If someone were to buy a house for them to live in, but put their children on the deed, then according to the deed, it is their children’s house. That said, if they were to pass away 10 years later, then it officially becomes the kid’s responsibility. Since the child did not live in the house for two of the past five years, they will have capital gains tax, which will have gained a lot of growth over time.
In that case, you would want to be sure to have a trust set up for the house. That way, the valuation for capital gains is based on the house’s value at your death and not when you put your children on the deed.
Best Use of Debt in the Mortgage World: How it Works
First off, if someone has a lot of debit cards, credit cards, or student loan delivery, right now is the best time to pay it off. That even includes cashing out refinance on your property.
Jason’s clients, Mike and Michelle, are closing a loan next week that will raise their interest rate. Since they are going up in rate, they will pay off a chunk of their debt and save $1,800 a month in their consumer debt payments. The total payments of say $3,000 a month for all of their debts will then be paid towards the new mortgage payment. By doing this, they will pay this off eight years into this 30-year mortgage. So, in eight years, they are going to be debt-free and have a $400,000 house, which will appreciate to be a lot more in eight years.
It is important to not always dismiss a higher interest rate and slow down enough to understand the benefits. You must look at the numbers and the debt that you have to pay off. In this case, although the rate is higher, they are paying it off in less than half the time while paying off all other debt simultaneously.
Questions to ask When Wanting to Leverage Mortgages Effectively
There is no particular resource that someone could use to help them digest all of this information. Even Jason does not handle a mortgage on his own. It is important to talk to your mortgage advisor about what they are doing with mortgages. Jason is happy to tell people what he invests in and what properties he has. His clients also understand his beliefs because if they can understand where his heart is, they will know how he is going to advise them.