Increasing Income · Step 4: Cutting Costs

Is A Home a Legitimate Investment?

Jane is thinking about buying a detached house. A mortgage broker, four realtors, and her parents have explained to her that it’s an investment, as “house values always go up.”

Do they? We might indeed be able to say that over the course of, say, 50 years, the value of land underneath a dwelling is very likely to increase. In this case, the owner will see a gain when she sells. And sometimes, the value increases substantially within three months, a year, five years. Score!

Is it all as simple as that, though?

Let’s consider the likelihood that Jane will be able to hold this investment for 50 years, or even 10. Following are some scenarios she may reasonably face over that period (the timing of her surprise circumstances having no respect whatsoever for a temporary dip in the house’s value):

1. Jane falls deeply in love with a person whose custody arrangements require he stay put 2000 miles from her place.

2. Jane divorces, and no longer has two incomes to pay the cost of housing.

3. Jane gets her dream job across the country!

4. Jane’s child develops a severe illness that requires three years of treatment in another region.

5. Jane’s new wife is suddenly posted to another base, parish, or office.

6. Property values in their new location skyrocket, and Jane’s property taxes triple. Insurance and municipal utilities soar, too. On top of the mortgage and heat, the costs are now more than she can manage.

7. Jane loses her job, and it’s two years before she finds another one offering the same pay.

8. Jane’s mom needs Jane to be her full-time caregiver back home for the final eight years of Mom’s life, which arrived earlier than anticipated.

Life happens. When our dating, marrying, work, and care of parents took place in one place from cradle to grave, owning our residence made sense. Generally, it even made sense for 100% of our assets to be our land! Even if a wildfire tore through every couple of decades, our community rallied to help rebuild. Our security wasn’t subject to the whims of an insurance policy’s fine print.

Now? Love, school, health, and work take us all over the country -or the world! At the same time, home prices have reached bizarre levels in many areas. Middle class people are taking on mortgages of $500k or more. Whoa!

And if life goes perfectly? (Yay!) Is buying optimal if owning the house proves to be $2500/mo, when the amount of space actually needed could be rented for $800?

If you live in an area where houses are, say, $60k, you have a great income, you plan to stay put, and you’re able to lock in a low rate for the entire term of the mortgage (or pay it off in the event rates jump to unacceptable levels), owning can be a solid idea. Otherwise, think three times about this idea.

If I’m buying on the premise that proceeds -at whatever time I need to sell- will surpass all costs involved along the way, then I’m approaching the property as a stock. To pick a single stock is to gamble. We’re urged to gamble only what we can afford to lose.

What are some other options?

Rent just the space you need. Or rent a big ol’ house and sublet the excess rooms, part of the yard for a tiny house, and all of the driveway for an RV.  Or trade work for housing. If you feel compelled to own, consider a property that is already paying for itself through excess rooms or suites, or investing more broadly until you can own outright, or obtaining a mixer mortgage with reliable people who have similar goals.

However you limit home costs, be sure not to throw away the difference saved. Put some into your solid, low-cost business plan. Put the rest into low-fee index funds -a strategy through which you borrow nothing and own tiny slivers of each of thousands of companies, such that the failure of one won’t take you down.

Do people win when they buy? Sometimes. (I did. However, I was also careful to buy a place that paid for itself from the start through the rental of rooms and suites.) But just as with all gambling, for everyone that wins, a number of people lose. When you have a mortgage of $460,000 and your home’s resale value drops to $300k, you have some serious decisions to make. Continue paying the interest and principle on $460k -even for twenty years if that’s what it takes- until the house value breaks even again? How much do maintenance, taxes, utilities, and insurance cost in the meantime? At which point do you declare your costs sunk and fold, declaring bankruptcy and walking away?

The good news is that many people have found themselves in the worst case scenario -facing one or more of those in the “Jane” examples- and turned their situation around. Some have chosen to continue paying, waiting patiently for the property’s value to recover -putting their payment agreement above any other priority. Some have handed the property back to the bank, rented a place, and started from scratch -they took the lesson and revamped their entire approach to finances.

Don’t be duped by hot markets, the experience of people who owned during a very different era, or folks who make money on your decision to buy.

Buy if it really, really makes sense in your case, i.e. it genuinely costs less than renting, you can easily afford it even if some of your circumstances change a little, and you have a back-up plan if bigger events appear during a dip in your local housing market.

Otherwise, consider how else you might achieve residency in your preferred location and invest the difference in a diversified portfolio.

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4 thoughts on “Is A Home a Legitimate Investment?

  1. Hi joon. I am not in the U.S. If middle class people are taking 500K mortgages, does that mean lending standards have gotten creative (again)? I have not read about the use of no doc loans, or liar’s loans, as these things were called 10 years ago.

    So a 500K mortgage – I’ll take your example of 2500/mo mortgage payment as pretty close. With no other debt (unlikely) and a 33% debt to income ration you need to gross 90K. Yeah… I guess that’s middle class. A lot of hard-working people would look longingly at that number.

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    1. Hi Duane,

      Thanks very much for your comment 🙂

      The $2500/mo I use isn’t even necessarily for folks with income that high, nor specific to owning. People around me are paying this in rent + utilities or in mortgage (obtained before the recent market heat up) + utilities + property taxes + insurance + maintenance.

      Yes, a lot of hard-working people would love to see an income of $90k… but people with far less are finding (yes, creative!) ways to get a mortgage on an income lower than that. Some have parents kicking in a down payment, some are having their parents get the mortgage and repaying their parents, some are sharing the ownership cost with a partner or set of friends via a mixer mortgage, some are buying places with rental income that can be factored in by mortgage lenders, some increase their income for a few years before applying for a mortgage so that it shows on paper, etc.

      If one has reliable parents, partner, or friends to share the risk with, I think it can work out okay -but it’s still very risky and assumes life goes splendidly, which it simply doesn’t for everyone. And then, of course, a lot of us simply don’t have personal financial partnerships available.

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  2. Is a home a good investment? I’ll go in steps. Warning: This will be long and spectrumy.

    “We might indeed be able to say that over the course of, say, 50 years, the value of land underneath a dwelling is very likely to increase.”

    Yes and no. The value of land under most homes in Youngstown, Flint, Cleveland, and Detroit has done nothing but decline for the last fifty years. The value of land under homes in San Francisco and New York crashed hard in the 60s and 70s (looking very much like the crash in the Rust Belt) and then skyrocketed in recent times. And then there are places too numerous to list where the value of land has remained constant relative to the overall inflation rate.

    “Life happens. When our dating, marrying, work, and care of parents took place in one place from cradle to grave, owning our residence made sense.”

    Statistically the average American moves a dozen times in her life. Some places are more stable than others. People in Phoenix move house every five years on average – often to/from another state. Some moves aren’t voluntary. Ask anyone who’s experienced structural unemployment, flood, or fire lately.

    “Middle class people are taking on mortgages of $500k or more. Whoa!”

    Home prices in select regions have exploded in recent years. This is due to two primary factors. First, while the economy is increasingly squeezing out lower value employment (outsourcing, offshoring, and automation) higher skilled workers and owners of capital are receiving more and more of society’s goodies. They’re taking their greater compensation and concentrating in a handful of hot spots where opportunity and amenities are abundant – and bidding up the price of real estate. Second, the virtual economy of financial instruments has exploded and driven up speculative prices which are in no way tethered to the underlying physical productive economy. In other words, we’re in a giant bubble that’s so big and has so completely distorted everything for so long that we can’t even see the outlines of the old real economy anymore.

    “Is buying optimal if owning the house proves to be $2500/mo, when the amount of space actually needed could be rented for $800?”

    People rarely choose to live substantially below their income. What we “need” is a bed, a stove, a bath tub, etc. But what we believe we should have is relative to what people around us have. Humans are profoundly subject to these often unconscious forces.

    “Rent just the space you need. Or rent a big ol’ house and sublet the excess rooms, part of the yard for a tiny house, and all of the driveway for an RV. Or trade work for housing. If you feel compelled to own, consider a property that is already paying for itself through excess rooms or suites, or investing more broadly until you can own outright, or obtaining a mixer mortgage with reliable people who have similar goals.”

    This is the paragraph I gravitate to the most and want to highlight. I believe these are excellent options for rational people. But be aware that our neighbors, HOAs, and municipal regulations often prevent these strategies from being implemented. It can be done, but choose your property and location carefully.

    Land traditionally had value linked it its productive capacity. Can food be profitably grown on it? Are marketable minerals or timber located on the land? Does the land have access to sufficient potable water? But the twentieth century saw less and less emphasis on the individual productivity of specific tracts. Instead distant industrial processes, increased financial complexity, abundant fuel, and massive national infrastructure networks smoothed out the need for parcels to be individually productive relative to the larger mesh of society.

    The question then became, is the land in a location that provides easy access to nearby employment and amenities? Is the land served by value-adding infrastructure? Is the land in a clean and picturesque location with upwardly mobile neighbors and good schools? Land for homes didn’t need to be productive anymore. In fact, most forms of home production (growing food, raising animals, operating home based businesses, taking in room mates… even drying laundry in the sun) was increasingly seen as culturally undesirable and was made illegal.

    I see a future in which we experience more volatility of all kinds. For some hunkering down will work well. For others keeping agile and mobile will work best. But a lot of folks are just going to get squeezed really hard no matter what they try and do. Sometimes opting out is the best plan.

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    1. And this ^ is why I’ve been following your blog since I learned of its existence, Johnny! Love. I feel privileged that you’ve provided a big, juicy comment here, thank you! Fun to finally get to chat with you 🙂

      “Yes and no. The value of land under most homes in Youngstown, Flint, Cleveland, and Detroit has done nothing but decline for the last fifty years. The value of land under homes in San Francisco and New York crashed hard in the 60s and 70s (looking very much like the crash in the Rust Belt) and then skyrocketed in recent times. And then there are places too numerous to list where the value of land has remained constant relative to the overall inflation rate.”

      Yes, this is where the “may…over 50 years” comes in. Property may or may not ever increase in value. Anyone telling us it “always does” is making up a little story, and believing that story may be detrimental. The “may” is a critical piece.

      Personally, I wouldn’t be surprised if land in, say, Flint increased in value over the next 50 years…because I wouldn’t be surprised by land value going up or down over any period of time, just as with any other item. If we’re looking at buying, we need to know that we can’t know what the value will or will not do. Who knows how climate change will affect the inherent value of a property (wiping it out, making a desert area more lush, etc)? How many millenials will choose to cash out of certain jobs and reinvigorate little towns in non-hot markets? http://nationalpost.com/news/canada/ontario-town-offers-90-per-cent-off-land-other-incentives-to-move-there …where the next valuable earth element will be located? Which area becomes progressive enough to be almost entirely off-grid, reducing its dependency on big energy providers?

      “Statistically the average American moves a dozen times in her life. Some places are more stable than others. People in Phoenix move house every five years on average – often to/from another state. Some moves aren’t voluntary. Ask anyone who’s experienced structural unemployment, flood, or fire lately.”

      I can’t believe I didn’t put disaster in Jane’s list of examples, given how many of my global neighbours have been exposed to this recently! Yes, that too.

      “In other words, we’re in a giant bubble that’s so big and has so completely distorted everything for so long that we can’t even see the outlines of the old real economy anymore.”

      Well said.

      “People rarely choose to live substantially below their income. What we “need” is a bed, a stove, a bath tub, etc.”

      Indeed. I was most recently exposed to the mainstream concept of “need” in a support appointment for my son recently. I thought, “Man, if I lived according to the support worker’s list, we’d be broke and on the streets (again). I’ll be blogging about that soon.

      “I believe these are excellent options for rational people. But be aware that our neighbors, HOAs, and municipal regulations often prevent these strategies from being implemented. It can be done, but choose your property and location carefully.”

      Absolutely. In fact, this is what has prevented me from buying again in the last six years. I can pay $250k-$700k and not be allowed to do anything smart with the property! In some cases, I’m not allowed to hang my laundry to dry in the 38 Celcius heat -I’m required to maintain an electric dryer. In others, I’m not allowed to grow food or have a nonrelative in a tiny house more than four months out of each year. In others, I’m not allowed a roommate, housesitter, or tenant. Ditto solar panels… or a person -including my own child or grandchild- under the age of 19, 45, or 55. No thanks! Somehow, I don’t feel like I own anything in those scenarios.

      “…most forms of home production (growing food, raising animals, operating home based businesses, taking in room mates… even drying laundry in the sun) was increasingly seen as culturally undesirable and was made illegal.”

      This. And people don’t always realize these when they’re buying. Where I am, sellers and realtors are not required to disclose these laws, so a conscientious buyer makes great plans for modest, smart, environmental, financially-sustainable living…only to find out after signing that they’re not allowed.

      One friend bought rural property with the plan to put a few tiny homes on, but after the first tenant brought her RV home onto the property, the closest neighbour called bylaw and my friend learned: no RVs, no tiny homes, no additional people on the acreage. Financial plan bust.

      “I see a future in which we experience more volatility of all kinds. For some hunkering down will work well. For others keeping agile and mobile will work best. But a lot of folks are just going to get squeezed really hard no matter what they try and do. Sometimes opting out is the best plan.”

      Yep. For me, the keeping agile/mobile has been the strategy-to-date, with excellent results. I highly recommend aiming to structure one’s life to support that, if at all possible. And there are a number of ways to opt out -I’m a fan of that too. I’m more reluctant to hunker down, but that’s more about my personality than anything -it seems to be working for some folks.

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