Most of us use leverage, although many probably don’t think about it that way. When you buy a home, you simply apply for loans and then go with the one that has the best terms… typically it’s a 30-year repayment schedule with 20% down. That’s simple enough, but when you look at it another way, this transaction involves you getting someone else (the bank) to put up $4 for every $1 you kick in. That levers you, the borrower, 4:1. Immediately after you close, you’re on the hook to the bank for the repayment of the total amount, no matter what happens. If your home drops in value by 10%, well, that’s okay, because you still have some equity. Sure, you’ve lost half of your down payment, but if worse comes to worst you can sell the home, pay off the loan, and still walk away with some cash. If the home drops in value by 20%, then you’ve lost all of your own money. At any number over 20%, we apply the dreaded term, “underwater.”
Posted on: Mon, 07 Apr 2014 21:01:47 +0000
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