gwilks98

I never really looked at it like this before. Take the standard logic brokers use to get people to buy homes:

It will appreciate in value over time, my guess is between 3 and 5% avg per year?
Your principal payments are an investment, whereas 100% of a rent fee is an expense.
Your interest on a mortgage is tax deductible.

Is it truly smarter though? Lets say I had the option over the next 30 years to live in a $120,000 house. (Yeah, it's cheaper here, but that's still pretty small.) I also had the option to live in an apartment for $550 a month.
Comparatively, I'm paying less per month for the apartment by about $200, after you computer PMI and any additional BS fees.

If I took that 200 extra per month and invested it each month for the 30 year term at an average rate of 8% (it seemed like a fair number), I'd have approx $75,000 at the end of that term. (Minus taxes, probably 50,000 or so.)

Now, had I bought the house, I figured it would have appreciated about 3.5 % per year, again, it seemed like a fair number. At the end of the term, it would be $336,000. However, I will have paid $248,002.12 for it. That's only 88,000 in profit. Keep in mind, I'm not including the taxes you pay on the sale, plus fees to both buy and sell the property. Then there's maintenance cost on the house. I'm sure over 30 years your going to have to repair quite a bit.

After all is said and done, will I really have more money than my original 50,000?

It still doesn't seem logical, maybe even counter intuitive. Was Robert Kiyosaki right? Is a house a liability instead of an asset?

Edit: I forgot to add one thing. I would have paid 128000 in interest. Assuming a 30% tax bracket, I would have roughly 55,000 in back taxes owed total. So the figures are a little better for the house, but not by much.

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zippyjuan

I look at two main financial incentives for owning. First, you lock in what you are paying each month for living expenses not including food and the like. Living in an area with rapidly increasing rents like San Diego that has meant that I can still afford to live here. My mortgage and condo homeowners fees currently run me about $750 a month on a one bedroom. If I was still renting, it would cost me at least $1100 or $1200 a month for the same place now, so I am saving about $500 a month.

Second, it is very helpful in retirement to not have the expense of rent or mortgage payments by having it paid off so you can afford to live on less income. If you look at alternative investment returns, you would have to make enough of a return on your investments to cover rent in order for not buying to be worthwhile- and that would require a nice return indeed.

People look at the appreciation of property values as an investment- but that appreciation is rarely realized. The only time you actually capture that is when you cease to be a homeowner. If the price of your home has gone up, then so has the amount you will have to pay if you move to a new home. The only time you can truely benefit is if you move from an area that has had rapid price appreciation to one with low appreciation.

If it is within your reasonable financial reach, I think it is a good thing to buy a home. Make sure you get a fixed rate for your loan if you do- rates are at an historically low mark and will most likely increase during the life of your loan which will increase your payment.

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ray

You left out the component of writing off your interest on your annual tax return.

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brainsmile

that's is a huge point and why I have more than 1 home.

it also depends on where you live. Here in san diego some of the homes have gone up by 50% in a year to a year and a half's time. That's huge.

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johnnymk

If you can find an investment which will give me 8% per year, please let me know.

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LegendKiller

Thats about what I was thinking, especially after taxes, capital gains, or even taxes on interest payments cuts your gain quite a bit.


That 8% is a risky investment. A AAA bond, only yields ~4.2% in the past week, BBB+ structure is ~5%, any lower than that and you are playing a little loose. Government bonds are even less.

Houses VERY rarely lose value and are thus a near risk-free investment. Furthermore, they are counter-cyclical. Almost all times during a recession the housing market has seen a boom, which slows in accelerated periods. This double nature, when combined with equity often returns the best value.


If you really want to perform a good comparison, you will need to compare a low-risk investment to a house. I would say, perhaps, an 5% annual return, before taxes. I would also factor in reinvestment risk (houses dont need to have cash flows invested at like-rate), and PV of payments.

WHen looking at a house, you need to figure in PV of future payments, instead of just looking at straight payments. Figure in taxes and any type of advantages to owning a house (you can take out low-interest equity lines which gives you more free cash to invest). I would also account for the fact that in many areas your investment will return a much larger amount than you expect.

For example, my fiance's parents purchased a house in Naples FL in a gated community when it first started for approx 250k, a cheaper house by their standards (father didn't want all that much capital tied up due to other investment opportunities). They are now selling that house for ~550, in a bit over 5 years. That is a 14.87% annual return, with which he was able to draw a line of credit to further leverage the investment and use to gain additional returns. Lastly, he was able to deduct several items (including I pmts) from his taxes. All of this could be taken into account, a rough estimation would lead to ~19% annual return.

I know several people here in Orlando that have purchased condo's for $120 to turn around and sell them for 180 6 months later. You can't beat a 100% annual return.


LK

DarkFury

Renting is ONLY a better idea if a) decent housing in your area is WAY above your ability to pay or b) you haven't decided to live in that place for a set period of time (over 5 years I'd assume) and you want to keep your options flexible.

Other than that... you can't go wrong with owning real estate. Plus... with rent, all you are doing is paying someone else's mortgage (and not seeing any of the benefits from it...)

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cheapchinese

rent can change yearly, but mortgage's are locked (if you got the fixed interest rate)

plus, deduction of taxes

insurance of property (deductible)

equity loan possible (low interest)

profits from selling the property

remodeling your own property.

no one else has your keys

borrowing money also helps on your credit report (assuming you pay on time)

gwilks98

At the rate housing prices have risen, I assume it's because there are more buyers out there due to low rates. Assuming rates go back up next year, like many are predicting, what do you think the chances are that we're experiencing another investment bubble on the verge of collapsing?

And does anyone know if personal real estate follows the same principles as commercial, detailed in the 4 quadrant model?
Link: http://ocw.mit.edu/NR/rdonlyres/Urba...431_GMch02.pdf

LegendKiller

I am not quite sure if personal real estate would follow that model. Commercial is tied much more directly to actual movements in the economy, while residential has been shown to be counter-cyclical, historically. It is rare that houses LOSE value, even during normalized times for the economy.

As for a collapse of an investment bubble, as I said before, the lowering of housing value is VERY rare in most markets. Houses are tangible, people like them, love them, live in them. They are not like stocks, which are intangible and are subject to less confidence due to this and the fact that companies are lead by people investors do not trust, thus they are punished. Houses are led by the owner, inspected by YOUR inspector, you have more confidence and thus, offer the price demanded.

As far as rates, it is going to take a LONG while for them to come back up to pre-bust rates. The Fed isn't going to jack them up 3-4% within the next year, or probably even two. It will raise them gradually to ease fears, just like it lowered them.

Cheaper financing will be around for a good while.

LK

gwilks98

Thanks LK. I'm going to the bank to go over my pre-approval on tuesday. Let the house hunting begin.

dbax791

LOL I agree with the others. Can you hook me up with a risk-free 8% investment?

Couple things...first your 8% return isn't really 8% - more like 5.4% when you take out taxes. Next, your 6% mortgage isn't really 6%, more like 4% when you factor in the mortgage interest dedcution.

Now I know a bunch of people buy condos and townhomes and yes that is a good thing because it is equity and not flush-rent-down-the-toilet money every month, but I am not a fan of 'em b/c you are buying into a structure and not a property. Structures deteriorate over time, your land that you own is yours and historically has never depreciated in value.

My property has appreciated at least $60K over the last few years and the funny thing is that after deducting the tax write-off, my monthly out-of-pocket payment is comparable to a one-bedroom apt.

Good luck!

zippyjuan

dbax791- A condo or townhouse owns a share of the total property- building and land. Their value is more associated with rental rates than house values because that is the type of people generally buying them- people tired of paying rent or those looking to rent them out. If the mortgage is going to cost more than the rent, then people will not buy them. Lately the condo market in my area has also been fueled by people who just cannot afford the price of a house. This also makes them more subject to price declines if there are a lot of rental vacancies in the area which results in lower rents asked. If house demand drops, people generally will either take the property off the market or leave it for sale longer- it is very rare that house prices decline by much, although it can happen as Silicon Valley has seen in recent years.

Lower interest rates have allowed people to purchase more expensive homes because the lower rates mean lower payments. It is more the payment than the actual price of the house that effects a person's decision to buy or sell. If you want to talk appreciation, my condo has gone up nearly three times what I paid for it six years ago. If you are considering a condo, be sure to also look at how well the property is maintained. My board is willing to spend our Homeowners fees to maintain the property and keep our values. Yes, location is important as well. Don't just look at how much the homeowner's fees are but also what you get for them. Also remember to include them in budgeting how much you pay each month. They will also probably increase over time.

cheapchinese

don't forget to start @ FHA
a gurantee from them, helps to retain better loan

gwilks98

Why start at FHA? I no understand....

DarkFury

FHA loans pretty much only require that a borrower put down like 5% of the mortgage value up front without having any other equity position to back the loan....

What this means is that many "first time buyers" who don't have any other equity (as in moving from a current home to a new home) that proves their "track record" with making house payments on time will still be able to secure the financing they need to get a home.

The downside to most FHA loans is that:
a) many of them don't offer the "lowest" interest rate available (even though they do allow you to get a mortgage period),

b) they usually include PMI which is Property Mortgage Insurance which makes your monthly payments higher... to guarantee that the mortgage will be covered should you default in the future and

c) usually have more stringent rules as to the qualifications of the property that you are buying (i.e. houses with bad roofs, lying in flood zones, with termite damage may not be qualifiable for a FHA loan...due to the RISK of these properties)

I finally was able to get rid of my FHA loan when I refinanced some 2 years ago... my new loan eliminated my PMI payment and dropped my total payment down almost $100 per month (considering the lower interest rates now than when I had initiated the FHA loan about 7 years ago).

But still... FHA loans are good if you need that little extra push to get your foot in the door. VA loans are also good if you have a "military history" and qualify... but I can't speak on their benefits as I haven't been in the military.

gwilks98

I must have misunderstood. I thought FHA loans didn't require PMI, but there was an additional fee that was built in (usually a bit cheaper than PMI.) I thought the difference was the fee was smaller than PMI, but PMI can be eliminated when your share of the house rises above the 20% minimum. (Whereas the FHA fee stays with you throughout the life of the mortgage.)
Am I thinking of something else? I know I didn't dream this up...

Here's what I'm talking about:
http://www.ourfamilyplace.com/homebuyer/pmi.html

dbax791

Thanks for the clarification - I guess I kind of inherently knew that the HOA share the ownership of the common areas, but I didn't think of it in those terms b/c you are not really free to improve on the land.

zippyjuan

PMI stands for Private Mortgage Insurance. If a borrower has less than 20% equity in a property, the lender may require the insurance to cover any possible default on the loan. It is not a deductable item on your income taxes, so it is a good thing to avoid if you can and get rid of as soon as possible. If you have PMI you need to prove (and the lender does not always make it easy and certainly won't tell you how) that the equity in your property has reached that point- either by having reduced the balance owed through payments made or by apreciation of the property value. You will probably have to pay to have it assessed in value. WIth rates so low now, I would avoid any variable rate loans since the only way they can go is up. Also avoid interest only loans. Unless you make extra payments, you will never get it paid off and might as well stay a renter.

Some people have an escrow account set up for their property taxex. The way these work is that you pay a portion of your property taxes to your lender along with your monthly mortgage payment. They then pay the tax for you when it is due- which is usually twice a year. For many people, this helps them budget so they do not have to come up with the tax payment at one time. The lender has free use of your money until it is paid for you- you do not get any interest on it. If you can budget it yourself, then you can invest the money yourself and get your own interest on it. If the lender forgets to make the payment for you, you are still liable for the amount.

DarkFury

Here's what you missed in that link...


Just because the "FHA Mortgage" doesn't CALL it "PMI" it is still treated as "PMI"... and is not tax deductible and makes your payment higher than if you didn't have to pay any "mortgage insurance".

When I first financed my house back in 1997, I was paying about $54 per month for "PMI type insurance" which drove my payment up into the $730 per month range... when I re-financed, my mortgage company was able to get me a loan with no PMI costs which brought my monthly payment down that $54 plus it went down by the difference of the lower interest rate... I now pay about $650 per month which includes my house payment, taxes, and regular homeowner's insurance.

The "misconception" is... if you have PMI and you die, then your house mortgage WON'T be paid for and your "estate" will still be liable for the mortgage... This insurance is only to protect the mortgager from losses should you not be able to make your house payment... and that is all.

Your link confirms this...

gwilks98

Thanks, DF

Anywho, I got preapproved this morning. The bank pretty much said name your price (within reason, of course) because my credit score was so good. However, income is severely limiting my choices. I guess we'll see what I can find.

zippyjuan

Good luck with the house hunt! At least it should not be as bad as it is here in San Diego where the median priced house (half higher, half lower) is over $400,000 and only sixteen percent of single income people earn enough to afford that!