What Is a Starter Home, and Should You Buy One?

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First-time home buyers often ask themselves if they want to begin their homeownership journey with a starter home or if they should hold out for a forever home. 

More often than not, approaching your first home as a starter home is the way to go. With a starter home, you begin the process of building equity, which can help you settle into a permanent home down the line. 

If you’re not sure whether or not a starter home is a good fit for you, read on for answers to your top questions about buying a starter home. 

What is a starter home? 

So what is considered a starter home exactly? What you consider to be a starter home may look or feel different than what someone else considers to be their starter home. There is, however, a general idea most of us share regarding what one looks like. 

For the most part, starter homes (also known as entry-level homes) are smaller homes with a lower price point that a buyer doesn’t intend to live in for the rest of their life. Often, people buy starter homes intending to build equity until they can afford to buy a larger home that can accommodate a growing family or other needs. 

Starter homes can be homes that:

  • Require updates or repairs
  • Are on the smaller side
  • Are located in a less-desired area 
  • Lack the amenities that bigger or newer homes come with 

More often than not, people view starter homes as waiting rooms for their forever homes. In an ideal world, once you find a forever home, it will meet the needs of you and your family for years and you won’t need to leave because you ran out of space or want to live in a better school district. Again — your idea of what a starter or forever home looks like and costs is what matters. The concept of a forever home focuses more on how it suits your needs than aesthetics or monetary value. 

Should you treat a starter home differently than a forever home? 

The answer to this question depends on how long you plan to stay in the home and what your philosophy is when it comes to home renovations and decor.

For example: If you see the end in sight and plan to only stay in the starter home for five years or less, then you may not want to renovate or invest in decor specifically chosen for that space since you’ll be moving on soon. You may not see the point. 

On the flip side, if how your space looks impacts your mood and happiness, then those investments may be worth it to you. Do you want to grow a garden that you’ll enjoy now but won’t be able to bring with you? Maybe you do, and that’s totally valid. You need to decide what you want out of your starter home. 

If you want to save as much money as possible to put towards your forever home’s down payment then you may be fine with not making changes to your starter home.  

Should you have a plan to sell the home before you purchase it? 

When you buy a starter home — with the intention of it being a starter home — it’s important to think a few steps ahead and have a timeline for selling the home in mind. 

If you sell the home too soon, you risk having to pay capital gains tax if your starter home appreciates. While you can normally exclude up to $250,000 ($500,000 if you're married and filing jointly) of capital gains when you sell a home, if you own the home for less than two years then you have to pay that tax. The money you spend on that tax may outweigh the savings you gained from buying a starter home instead of renting. 

Sit down and crunch the numbers to make sure that between moving costs, closing costs, property taxes, home repairs, hidden costs, and potential capital gains taxes that buying and selling a starter home quickly is worth the investment. 

You also need to keep resale potential in mind when you buy a starter home, as you don’t want to be stuck with a home you can’t sell for a good price. One benefit of making those aforementioned updates to the home is you have the potential to increase the value of your home. 

At the end of the day, we can’t always predict what life will throw our way, but there are some common life events that you should keep in mind before you buy a starter home to help determine if you’ll be in the home long enough to benefit from the purchase. Ask yourself the following questions before you buy.

  • Will I need to relocate for a job in the next few years?
  • Will my relationship status change?
  • Do I plan to start or expand my family?
  • Will I need to care for any older members of my family in my home?

Should you buy a starter home in cash or take out a mortgage?

How you pay for your starter home will depend on your unique financial situation and preferences. When deciding whether or not to pay in cash or take out a mortgage you should take mortgage interest rates into account. If the mortgage interest rates are super low, as they are at the start of 2022, you may find that taking out a mortgage and investing your cash instead gets you more bang for your buck. If the rates are higher, you may find that paying in cash saves you a ton of money on interest. 

Chances are, if you can afford to buy a starter home in cash, you’ll want to consider putting that large sum of money towards a down payment on a forever home instead. 

Pros and cons of starter homes

If you’re still asking yourself if you should buy a starter home or wait, take a look at some advantages and disadvantages associated with starter homes that can help you make your final decision. 

Pros

  • Start to build equity. If you buy a starter home, instead of paying rent each month you will build equity in your home. When you build equity you help build your own wealth and expand your net worth. 
  • Take advantage of favorable market rates. If you’re house-hunting in a market with low interest rates, you can start to build that equity without paying a lot of interest.
  • Learn about homeownership. Transitioning from renting to being a homeowner comes with a learning curve. Your starter home can act as a first pancake and help you learn more about what you want and don’t want out of a forever home. 

Cons

  • Take on more work. Buying, maintaining, and selling a starter home is a lot of work. Waiting a bit longer until you can afford your forever home can save you a lot of hassle. 
  • Avoid competition. Because starter homes are more affordable, buyers often face steep competition that leads to bidding wars and paying more than they would like to for their starter home.

Think over your options carefully before you buy a starter home and if you do buy a starter home don’t write it off completely. You may find that with some strategic renovations and some compromises, your starter home can become your forever home. Give yourself a chance to fall in love with your new home — it may surprise you.

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