Author Topic: Seems to make sense but spending so much feels wrong  (Read 5404 times)

Left Bank

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Seems to make sense but spending so much feels wrong
« on: June 02, 2014, 02:40:55 PM »
Hello All,
Here's the situation:  My wife and I are done with the New England winters and have decided to leave before the next round of grey, cold and snow.  We are very recently FI (as long as the rentals do what they do and we assume a 3% SWR on the rest) which is emboldening us to make the change.   
It seems a lot of home purchases now are being done without financing to make offers competitive and reduce hassles for buyer and seller alike.  The plan is to rent out our current home which should make us a little money after mortgage and maintenance (assume net 0 for illustrative purposes) and buy the new house with cash.  It feels really wrong to spend so much of my own money but we can subtract most of our monthly housing expense if we did so.  I am thinking that as long as 3-4% of the sum spent on new house is < or = to our planned expenditure in current house it makes sense. Right?

Example (numbers chosen for simplicity):

Current house mortgage = 1k/mt = 12k/yr 
Rent out house thus negating it from equation
New house costs 300K (where if it stayed invested it would be expected to earn 4% from the 300k)  which equates to 12k/yr)

So essentially, I am just paying for all my housing costs upfront and that should not be that "bad" or am I missing something?

deborah

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Re: Seems to make sense but spending so much feels wrong
« Reply #1 on: June 02, 2014, 02:54:02 PM »
It sounds like you don't want to live in your current house again, so why keep it?

From what I have been reading here, your own house doesn't usually make a good investment property - it may need more maintenance, and have a bad earning to investment ratio than a place you buy for rental. Maybe you should get a real estate agent out to apprise it for selling and for what they would recommend renting it out, and see how the figures actually work out.

If you don't plan on living anywhere near the current house, will you have extra expenses for it (if you rent it) and your current rentals because you will need to visit them occasionally?

Left Bank

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Re: Seems to make sense but spending so much feels wrong
« Reply #2 on: June 02, 2014, 03:25:56 PM »
Thanks Deborah.
We are in a high COL area (Boston) and the rents here border on outrageous.  After looking at Craigslist for months, I think we will be able to rent for close to $500 over our mortgage/tax/ins. and we have been meticulous with the maintenance to date so I do not foresee much being needed (just saying that makes me cringe).  Our thinking is that we already have the house, why not let someone else buy it for us?

But that is not really the question.  What about paying all your housing upfront as in a cash purchase?

FrugalZony

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Re: Seems to make sense but spending so much feels wrong
« Reply #3 on: June 02, 2014, 04:38:20 PM »
I get that you are saying your yearly opportunity cost for pulling the 300k out of the stash to buy a house is 12k (aka 4%), so $ 1000/month, which is somewhat right, if you neglect taxes and potential of higher appreciation for simplicity purposes

But don't forget that your 1000 k then have to cover MORE than your mortgage
You will still have to pay taxes, insurance, maintenance and all that good stuff, you'll have to take into consideration.

If you can rent out your current house for a much higher ROI than your invested money that's great, especially as you won't have to pay the transaction cost for selling it (I cringe only thinking about paying realtors 6% plus all other fees etc)

Is there a way to rent for a while in your desired area and see how things are going? Especially if it's far away from where you live now, you don't want to rush into a buying decision purchase, without being sure that this is a good solution for you.

DollarBill

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Re: Seems to make sense but spending so much feels wrong
« Reply #4 on: June 02, 2014, 05:34:59 PM »
For me I had a bad time with renting my house. The worst part was not the money (-$16K) it was the psychological side because I took good care of it and watch it turn to crap. Renting can be a good profit if you can stomach it...you can say the same thing about investments.

Jamesqf

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Re: Seems to make sense but spending so much feels wrong
« Reply #5 on: June 02, 2014, 05:52:37 PM »
New house costs 300K (where if it stayed invested it would be expected to earn 4% from the 300k)  which equates to 12k/yr)

With good credit and a sizeable downpayment, I think you could find a 15 year mortgage under 3.5%.  So 0.5% of $200K is an extra $1K/yr.

Historically, long-term stock market returns have, IIRC, been closer to 7%.  (The oft-mentioned 4% SWR covers worse-case contingencies.)

Depending on your income &c, you can deduct a portion of the mortgage interest on your residence for extra savings.

In your position, I think I would use cash to pay off the mortgage on your current house, since if I'm not mistaken you won't be able to deduct interest on that loan.  And what's the rate on the current mortgage?

Eric

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Re: Seems to make sense but spending so much feels wrong
« Reply #6 on: June 02, 2014, 06:19:22 PM »
So essentially, I am just paying for all my housing costs upfront and that should not be that "bad" or am I missing something?

It's not bad per se, but it's not ideal.  The paid off house is an emotional issue as well.  If it will help you sleep at night when the market is dropping, then it may be a good idea.  However, there's an opportunity cost.  You're giving up liquidity plus likely investment gains (Investment gains % - Mortgage Interest %).  Over the next 30 years your investments will return more than the ~3.5% that you're paying on a 30 year fixed.  The fact that you consider yourself FI with a 3% WR means that you already believe that your investments will beat your mortgage rate.

Read that last sentence again.

Therefore, the math says take the mortgage and you'll end up with a larger stash in 30 years.  The human element may cause you to make a different decision though.  Again, it's not bad, as you're already in a great place, but realize that it's not the optimal decision.

Argyle

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Re: Seems to make sense but spending so much feels wrong
« Reply #7 on: June 03, 2014, 12:54:20 AM »
You've been meticulous in care of the house, but there's a significant probability that renters won't be.  They're quite likely to scuff things, bang things up, run things down, require new paint jobs; and there's a possibility of even more expensive damage.  One illegal pet that chews carpets or doors, or pees all over the house; or one wild party, and there's a lot of money spent, as well as the hassle.  The one time I rented out my house, I made the mistake of only requiring the regular security deposit.  Turns out renters can do more damage than a normal security deposit would ever cover.   Then there's the people who don't pay their rent and have to be laboriously evicted, etc.  It all hurts more when it's your own home they're damaging.  Things to think about.

FIence!

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Re: Seems to make sense but spending so much feels wrong
« Reply #8 on: June 03, 2014, 06:39:22 AM »
Since it sounds like you are going to be buying the new home in a city you've never lived in before (is that accurate?), I would advise against paying cash because of the liquidity issue. You can do the math all day comparing what you would pay in mortgage interest to what you could get out of the market, but I think that is secondary to the idea of tying up all your money in a home that you may not feel good about it a year.

I think it comes down to two questions...

If there was a big market drop one month after you closed on your new home, would you wish you had 200k to invest that day, or would you still be glad that you had a home paid for in full? (Different people will answer that differently. I'd personally like to have the money available, assuming low mortgage rates.)

You are now so sick of the New England winters you're ready to bolt. Imagine you had paid cash for your current home. Would you be able to leave easily? Now imagine you feel the same way in your new home in one, three, or six years. Again, assuming low interest rates, I think the benefit for paying a house off in full only exists if you plan on staying there as long as the mortgage would last.

Thegoblinchief

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Re: Seems to make sense but spending so much feels wrong
« Reply #9 on: June 03, 2014, 07:02:25 AM »
At interest rates now, I'd take the mortgage every day. The money is very close to "free" and acts like bonds by giving you an inflation hedge.

If your other assets already have you at 3%, I wouldn't even bother renting the primary residence. I'd sell and save myself the headache.

 Are your other rentals in that area? Have you been self managing or using a PM? If you have a PM or network of handymen, etc. you already trust when managing remotely, that is a little different story.

skunkfunk

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Re: Seems to make sense but spending so much feels wrong
« Reply #10 on: June 03, 2014, 08:16:24 AM »
Sell that thing. It's not worth the headache to call it even on renting it out.

Whether to get a mortgage or pay cash depends on your risk tolerance. You will pay closing costs to get a new mortgage, so take that into consideration. Personally I would pay cash as you can't get a much better guaranteed ROI than getting rid of a mortgage. You take on a lot more risk, kinda like buying on margin, to put that money in stocks and hold a mortgage.

BFGirl

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Re: Seems to make sense but spending so much feels wrong
« Reply #11 on: June 03, 2014, 08:19:39 AM »
In my area, it is a Seller's market.  If the same is true where you are moving, a cash offer may be the best way to get the property you want.

However,  I think you should look at how much your stash will be reduced, because that will decrease the amount of earnings/growth you will have.  Make sure that you can still live on the withdrawal rate you have decided upon.

I prefer to have a paid off house.  It helps me sleep better at night. 

quilter

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Re: Seems to make sense but spending so much feels wrong
« Reply #12 on: June 03, 2014, 08:28:14 AM »
Renting out a house can be very tricky, for all the reasons noted.

Simply from the standpoint of making our lives as uncomplicated as possible, when we were FI and left the snow belt we sold our northern house and as sold many belongings as possible. We bought a one story house for cash with much lower property taxes and less land to take care of. We have one car.

Money wise could we have done better by keeping a rental, getting mortgage(s) or trying  to get a higher yield by investing the money?  Maybe. But no one can predict the stock market, bond market, real estate market etc.  and there is a significant hassle and time consuming factor. I prefer to spend my FI years as hassle free as possible so I can enjoy hobbies, friends, exercise and travel.  YMMV.