CASE STUDY Rocco and Stella Thompson are in their 20s and are just about to make one of the most important commitments of their lives is buying a home and starting a family. They have been living in a small apartment in Denver, since their marriage and college graduation five years ago. Rocco completed his degree in Elementary Education and Stella graduated with a degree in Dental Hygiene. Unable to find a teaching position in the local school district, Rocco works as an auto mechanic at the shop in the neighborhood and Stella works part-time in a nearby dental clinic. Both of them like the Denver area very much and the spectacular Rocky Mountains, Denver offers numerous opportunities for outdoor recreation and cultural activities. Stella commented recently, This seems to be an almost perfect place to raise a family. No wonder so many people are moving here. Rocco and Stella have been planning a family for the past three years. Stella wants at least four children, but Rocco doubts they can afford that many, given their tight budget. Six months ago they both began searching for a larger home. They are currently renting a two-bedroom apartment for approximately $950 per month, including utilities. Unfortunately, housing prices have skyrocketed in the area. Rocco and Stella claim they have been unable to find a four bedroom, single family home situated in a safe neighborhood and close to quality public schools for less than $250,000. Stella saves regularly, and has been depositing extra funds in their joint savings account with Wells Fargo. During the five years of their marriage, she has been able to save about $1,000 per year, targeting this money for a down payment, their childrens education, or other family expenses. Stellas savings wasnt enough for a down payment on a new home, so they were lucky that Roccos father offered to loan them enough to get started at only 3% interest. Rocco and Stella found the home of their dreams in Littleton, only about 10 miles south of down town Denver for $225,000. They plan to close next week and expect to move early next month. At a friends suggestion, they are considering a mortgage through a mortgage finance company, rather than commercial bank, in order the secure a 4.25% variable rate loan for $200,000. Their friend told them that this type of loan was perfect for people like them who are living on a tight volatile budget. You guys are going to save so much money every month over a regular mortgage, he told them. And you can use those savings to finish paying for the car or take a well deserved vacation. The monthly savings stemmed from the fact that this type of loan allows people to pay a lower interest for the first 1 year of a 30-year home loan and the rate increases .5% each year until it reaches 8%. This results in monthly payments of about $984 per month. However, according to the agreement made with the mortgage company, this rate can be adjusted every year thereafter, depending on prevailing interest rates (i.e. 10-year Treasury bonds). MAKING ENDS MEET Their monthly income varies, given Stellas part-time position and an inconsistent number of repairs at Roccos auto shop. So, Rocco and Stella appreciate the flexibility of their house payment. They plan to raise their family in this house and keep it for as long as their children live at home. Once the children are grown, Rocco and Stella can look for a smaller, less expensive place. They anticipate that, under this scenario, they will accumulate quite a bit of equity. Rocco was probably right their budget was very tight, especially for a couple thinking about having family soon. As the following statement shows, Rocco and Stellas combined monthly net income is about $3,750 and their expected household expenses will absorb almost every dollar they bring home. Stella has always been a cautious spender. She regularly shops at the cheapest grocery and clothing stores, using coupons and frequenting off-season sales. To avoid high gasoline prices, they often walk, take the bus, or catch rides with friends.

EXPECTED MONTHLY HOUSEHOLD BUDGET AFTER PURCHASE OF THE HOUSE

Estimated Monthly Take-Home Pay $3,750

Estimated Household Expenses: Home Mortgage Payment $984 (4.25% Initial APR)

Utilities 250

Car Payment 275

Transportation Expenses 100

Groceries and Other Food 450

Clothing 125

Insurance Premiums 275

Credit Car Payments @ 18% APR 500

Entertainment 125

Miscellaneous Expenses 170

Allocation to Savings 100

Balance 396

LONG-TERM CONCERNS Stella has been worrying for sometime about their lack of long-term saving and their preparation for retirement. Roccos auto repair shop offers an employer sponsored retirement plan where employees contribute 6% of their wages, which is matched by the shop owner. However, Rocco didnt believe they could afford the benefit and didnt sign up. Roccos employer also offers medical and hospital insurance, splitting the cost between employer and employee. Rocco signed up for this benefit, since he knew Stella wanted to have several children. The shop didnt offer dental coverage and Stella had no retirement or insurance benefits at the dental office where she is employed part time. Rocco and Stella had differing opinions when it came to preparing for the future. Just last weekend Rocco remarked, We are still very young to be concerned about retirement or our childrens education. We havent even started our family. If were careful, retirement will take care of itself and, undoubtedly, the government will fix any problems with Social Security and Medicare by the time were ready to retire. If need be, well move in with the kids! Stella just stared at Rocco. She discovered several years ago that he was very uncomfortable discussing finances, especially when the conversation revolved around saving money. Sometimes her attempts to talk about these issues turned into serious arguments or even an extended cold shoulder. Rocco once explained that his parents separated and then divorced over financial problems and he didnt want make the same mistake in his own marriage. Stella decided that it wasnt the time to start a heated discussion. She took comfort in the fact that she had been able to save some money every month and was determined to continue as long as she possibly could. Whatever problem we face, Stella thought, Well be able to solve them inside our beautiful new, spacious house. Assuring herself that their finances were in order, she jotted down a list of what they owned and what they owed: This new home will be wonderful place for our growing family, she grinned. Shed been to the doctor that day and planned to wait until Rocco was calmer to tell him she was five weeks pregnant.