Trading Up

 
The headline today (May 2012) read “Housing Market Recovery Gains Traction.” I guess that’s a good thing. It’s certainly good for anyone trying to sell a house or hoping that it will at least be worth what they owe on it. I suspect we’ll see more of those stories as time goes on and eventually (probably not for a very long time) we’ll see that home prices have surpassed their 2006 peak.

Don’t get too excited because, human nature being what it is, I’m sure people will fall right back into the trap of bad habits.

I wrote the piece below for a previous blog I ran in March 2006 (before the collapse) about why owning a home is a danger for some people. As long as you don’t get caught in this trap, you’ll be fine.

Trading Up

My parents have owned the same house for more than 30 years. My cousin owned her home for 40 years, raised her children in it and one of those kids will probably live in that house after she’s gone.

Modest HomeHave you ever heard of a mortgage burning party? Well, it used to be that people would buy a house and live in it until they died, working year after year with one goal in mind, paying off the mortgage. When the day finally came and the mortgage was paid off the homeowner would burn the mortgage as a final act of freedom. It was a significant event.

This has become rare these days as people continue trading up to ever larger homes with more amenities that end up costing more to maintain. It’s theBig House common roadblock to wealth – status.

It’s not a conscious thing. We don’t wake up one morning and say “I’m going to put status over saving today.” But when it comes time to buy something major like a car, you probably want the newest model with the most amenities and biggest engine. If you could get a Mercedes or BMW you would.

It’s the same with a home. You’re probably going to stretch to afford the most you can and, in time, when your financial picture brightens and you’ve built up some equity, you’ll want to upgrade. Never mind that you already have rooms that are rarely used or that it will cost more to heat and cool the house. No, you want a bigger house so that you can impress friends and family. Like I said, this might not be a conscious decision but if you would just ask yourself the question “is it really necessary for me to move” you’ll be surprised at the answer.

We do this all the time. Do you really need that new DVD? Do you really need that new grill or would a bit of cleaning work just as well and save you hundreds of dollars?

Yeah little things add up but big things add up quicker. So stay in your current house a bit longer. Keep that car for a few years after you finish the payments. It may be a subconscious thing, seeking status, but you can make a conscious effort to fight that urge and do more by spending less.


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Home, Investment, or Both

 

I’ve heard it said that your primary home, the place you live, is not an investment but I disagree. I have been very clear that it is not an ATM, a source of cash to be used to finance an unsustainable lifestyle but I do believe it’s an investment. I know I’ll get strong opinions on this from a lot of people but first let me explain.

When people hear the word investment they often think of stocks, bonds, mutual funds, or business ventures but there is a lot more that you can invest in including intangibles. You can invest in time, spending time with family and friends. You can invest in yourself by exercising and taking care of yourself. You can invest in knowledge by being curious and always learning.

When it comes to your home it is an investment in stability, in yourself, in a better future. Handled recklessly buying a home can lead to disaster. Handled properly, like other investments it can provide decent returns. How? Let’s start with a simple example.

Assume you’re 25 years old and are buying your first home. You spend what you can afford and put a proper 20% down payment (crazy right? – it shouldn’t be) on a $100,000 home (keeping the math simple here). You would have liked to buy a bigger $200,000 home but simply couldn’t afford it. Ten years later, assuming “normal” appreciation of 3% per year you sell your home for $135,000 the equity you’ve built up plus your other savings and investments allows you to purchase a $200,000 home.

ToolbeltNow let’s look at two other options. First, you’re a handy person and over the years you make improvements to the house at considerably less cost than if you had hired people to do the work. When you sell the home in ten years it commands more than the “normal” price increase and you sell it for $150,000. Now combined with your other savings and investments you can afford to buy a $250,000 home. Second, let’s assume that you paid extra toward principle each month and were able to build even more equity. When you sell in ten years at $150,000 you can now afford a $300,000 home.

The term investment doesn’t mean you’re going to get rich or that you’re even going to get a positive return, any investment has risk and that goes for housing as well – I think we all know that now.Home Values Chart

People who say it’s better to rent point out facts such as you’re not paying property taxes and insurance but the fact is you are. As a landlord I make sure your rent covers my expenses which include property taxes and insurance. When you leave the rental you have no equity to show for it.

To me a home is a great investment because it serves two purposes; the first is as a place to live and the second is as an asset that gives you more options in the future. Used properly a home is indeed an investment just not a get rich quick scheme.


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