Author Topic: Is Home Ownership Antithetical to FI?  (Read 26497 times)

smedleyb

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Re: Is Home Ownership Antithetical to FI?
« Reply #50 on: August 06, 2012, 07:46:18 AM »
I wonder if there is a mustachian formula we can invent in order to insure that people in the future do not get trapped in this endless cycle of mortgage payments, while keeping the residential housing component of their individual balance sheets to a reasonable level to allow investments (which kick off income) to grow at a much greater rate.

Obviously banks don't want you paying more than 23-33% of your income on mortgage financing; which leads me to think the actual number should be much lower, perhaps 10%?

Also, I've been toying around with the idea that a good mustachian should never have more than 10-20% of their overall asset picture tied up in their primary residence.  Thus, if you want to buy a 100K house and have 20K to put down as a down payment, then under this system you need to show liquid/rental assets totaling at least 80K, and preferably closer to 180K.  This ratio guarantees that you're never overinvested in residential real estate at the expense of more liquid and income producing assets, which are the primary driver of FI.




tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #51 on: August 06, 2012, 08:04:44 AM »
Great post. Your observations are spot on - most people consume more housing than they can afford, encouraged by the system (tax deductible interest payments),HELOCs, and keep withdrawing any equity for other consumption.

Getting a 30yr mortgage at 3% is incredible (almost free money given expected inflation),but only if you have offsetting investments elsewhere!

Unfortunately our whole system is built on continuous growing consumption. Most people will never reach FI. They will remain hamsters on a wheel, paying for the car, the cable, the Mac mansion, the credit cards,etc.

The observations may be spot out but the conclusions that have been drawn are not. 

So, what went wrong?  I think several things: 
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1) these bad outcomes are from situations where people borrow from banks.  Buying outright saves tons of money in interest payments to banks.  If you buy a $200,000 with a mortgage and pay it over 30 years, even with 20% down, you could easily pay twice the purchase price in payments (even more in previous higher interest rate eras).  So, even with the opportunity cost, buying outright could be great, but borrowing money you couldn't save and paying a lifetime of interest to a bank creates a big headwind for any "investment." 

Yes over 30 years you could that much interest but it should be noted that the S&P 500 increased by almost 9% CAGR over that same 30 years not including dividends - if you would have invested you would have been far better off than paying cash.  However, that may present an indirect risk to the growth of the stock market as boomers look to sell/downsize and that the spirit of cashing out equity has largely ended. 

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2) The housing bubble obviously hurt people.   Most people who bought anything between 2003-2008 have seen significant losses in equity.

Yes, but most people who bought before that are well ahead of the game,  also during the timeframe you reference there were plenty of people that bought houses during that period that had equity in prior houses.  In theory it was only 1st time homebuyers that lost during that period - I say in theory because these 2nd time, 3rd time, and so on homebuyers did not necessarily roll existing equity into the new house.

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3) The trade up mentality.  If over a lifetime people continued to reinvest housing gains in bigger and bigger houses, they never got the benefit of paying off that first house and living rent free in it.  They would argue that they captured their investment benefits in a steadily rising lifestyle in successively bigger and better houses.  Which is somewhat true.  But the problem is that it means that many people who "owned" all along still effectively became new leveraged buyers of big houses in recent (high-priced) years.

I agree whole heartedly with this, but it doesn't make housing bad it makes people stupid.  No different than saying I need 70k 4wd vehicle because it snows where I live once or twice I year so it would be safer.  Same stupid logic that people use all the time.

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4) The way mortgages amortize.  The principal paydown is backloaded.  In the first 10 years of a 30-year mortgage, owning and renting are similar.  Both people are "throwing money away" either on rent or on interest.  In the last 10 years o.f a 30-year mortgage, a lot of the payment really does build equity.  But if people move after 7 years on average, they never get to the sweet spot of principal repayment.  They just rent from banks instead of landlords

I generally agree with this and actually think it extends throughout all of homeownership.  The laws of supply and demand come into play in both buying and selling and overtime they balance.  All the variables that are factored into homeowner ship (purchase, repairs, taxes, insurances, etc.) are included in rent, but rent includes a profitibilty component but in theory the capital you haven't invested in housing (i.e. buying) could have been invested in other ways to offset this - although in practice this is not the case but as you point out homebuyers don't keep their equity either. One big difference would be large professionally owned apartment complexes, which have the economies of scale, purchasing power, more sophisticated understanding of what the market will bear for rents, and typically have lower capital costs so they can either maximize rents or price competitively and still make an acceptable return, which BTW are really low right now when compared to history (see apartment reits). These things are overvalued right now and more supply is coming online everyday. 

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5) Transaction costs.  Buying and selling houses enriches the real estate industry.  The math looks great for owning if you hold for a long time.  But if the typical person moves houses every 7 years, it means that they pay 7% of the asset value 4 times during the life of a typical 30 year mortgage or maybe 6 times over a typical working/homeowning life.  So that's 28% to 42% of the total value of the house lost to real estate agent commissions.  If house prices are going up, those percentages look even higher as a percent of the original purchase prices.  And if houses are mortgaged, those percentages look even higher as a percent of the equity in the house.  (Example:  20% down, hold for 5 years, pay down principle a bit so you now have 27% equity, sell after 5 years, pay 7% of total value of house, 100% of your principle paydown is GONE--paid to the real-estate agent.)

This is true but is really ties with #3 - sure some people move to relocate but most people move to trade-up.  I do think that it is probable not the best idea to buy when you are in your early to mid 20's as that is when need for mobility (for jobs sake) tends be the highest.



Richard3

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Re: Is Home Ownership Antithetical to FI?
« Reply #52 on: August 06, 2012, 08:08:05 AM »
There's some good discussion in this thread, but I don't think you can ever come to a blanket conclusion that owning a house is good or bad for FI. It's a very complicated decision even leaving aside the less tangible items like pride in ownership, stability / being tied to a place.

Full disclosure, I bought, but I bought at a good price, with a low interest rate, in a country where mortgage interest is tax deductible, in street with great location and a lot of renovation happening, I also put a relatively small fraction of my net worth down as a deposit so will be able to rent it out if / when I move.

My brother and his wife on the other hand (different country) had to stretch themselves a bit to buy into an inflated market (still did decently on the other aspects of making it a good purchase) but they have just had their first kid and want to make sure they don't have to move if the landlord wants to sell.

The other brother rents, because he wants to have the freedom to move to a different city if he or his GF get a better job and is happier in a smaller place renting than if he owned because it's not his.

Different priorities mean we're all making the right decision - the common factor is we have thought it through.

The argument "why would people be landlords if it wasn't profitable?" is pretty convincing though :)

 

tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #53 on: August 06, 2012, 08:19:48 AM »
I wonder if there is a mustachian formula we can invent in order to insure that people in the future do not get trapped in this endless cycle of mortgage payments, while keeping the residential housing component of their individual balance sheets to a reasonable level to allow investments (which kick off income) to grow at a much greater rate.

Probably too difficult to summize for individuals but too much leverage kills.  Typically, well run corporations sweet spot is around 50% leverage with no more than 20-25% of variable rate debt.  I say typically because there are exceptions. Basically they want enough leverage to maximize their returns and diversifying their line of business investments, while minimizing the risk of debt being the reason for going down.  Excess leverage is more often than not an established business fails, because it limits flexibility to adapt and change.

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Obviously banks don't want you paying more than 23-33% of your income on mortgage financing; which leads me to think the actual number should be much lower, perhaps 10%?

Personally, I like 15-20% but there are a lot of variables such as can you pay off your mortgage if you wanted, if so it is more like investing on margin and diversifying your risk to other investments.  As I am not FIRE yet, I also look at on the basis of sizing it to huch much of a pay cut could I take to afford it and compare to the ability to get a new job if I lose mine (i.e. a nurse who makes $50k a year will likely find a job rather quickly at the same pay almost anywhere could afford more leverage vs. one who has a higher paying job that has few job prospects and may be a cyclical business).

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Also, I've been toying around with the idea that a good mustachian should never have more than 10-20% of their overall asset picture tied up in their primary residence.  Thus, if you want to buy a 100K house and have 20K to put down as a down payment, then under this system you need to show liquid/rental assets totaling at least 80K, and preferably closer to 180K.  This ratio guarantees that you're never overinvested in residential real estate at the expense of more liquid and income producing assets, which are the primary driver of FI.

I agree with this.  Although it is hard if you are the sort that feels more comfortable having a paid off house. 

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #54 on: August 06, 2012, 08:22:15 AM »
One thought for the discussion:

So if I want to live in a 4 bedroom house in a good school district, almost everyone who wants to live there will be "the buying type."  That means that if a few home-owners need to rent their places out, for example because they are moving and having trouble doing a short sale, or holding out for hoped-for price increases before buying, I will be one of the few possible renters.
What do you guys think about this?  Does this make any sense?  Anyone do well renting the type of houses that are often owned?  Anyone do well buying apartments to rent to young urban professionals?

Not true where I live.  Nice family homes in good school districts rent well and for a good price.   The rate of divorce is high.  Once you separate if you want to stay in the same school district then renting might be the only way.  It is not common for families to live in apartments here and most apartments will not accept pets.  If you have kids and a dog and are waiting to buy or have no plans to buy a family home rental is the only option here.

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Re: Is Home Ownership Antithetical to FI?
« Reply #55 on: August 06, 2012, 08:32:10 AM »
Just like with stocks or other investments there are ways to reduce transaction costs. 

In Canada I can list on the MLS system without using the full services of a realtor for $600 including having someone take photos.  Many folks are choosing not to use a realtor these days.

In addition, my strategy has been to buy a primary residence and later convert it to a rental rather than sell and incur these costs before appreciation and principal paydown do their work.  Principal residences have better financing terms here and there is no penalty for renting out the home later (as there may be in the US).

When you add a suite to a primary residence the equation shifts radically.  Of course, you'd have to be willing to have a suite but many folks where I live do because prices are high here.   Rental income can reduce housing costs a lot compared to renting and act as a buffer against rate increases.  In the worst of times you can move into the suite and rent out the larger unit OR rent both and take the positive cash flow and use it to subsidize cheap rent somewhere else.

Speaking of rate increases, rates now are incredible and you can get them long-term - ie. ten years. This also mitigates the risk of a rate increase.

As far as a rule goes, I would say that my rule does not relate to down payment but cash flow.  If a property is not cash flow positive I don't buy it.  Appreciation is an unknown and deflation can eat away principal paydown.  Better to be able to hold and have it pay for itself during the rough times.

 

grantmeaname

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Re: Is Home Ownership Antithetical to FI?
« Reply #56 on: August 06, 2012, 08:54:52 AM »
He has been making mortgage payments for most of his life.  Maybe a few years of renting here and there, but mostly mortgage payments over the past 40 years or so.  The longest mortgages are 30 years.  And nominal housing prices have soared over this period.  So in theory, most people his age should own their house outright by now.  But no.  In fact, he just refinanced his current house, in which he has about 10-15% equity, into a new 30-year mortgage, on which he will be paying until he is 95! Somehow, the power of "owning" did not work for him.
This argument is specious. First, he's traded up houses, so the 10-15% equity that he has can't fairly be compared to his mortgage-paying career. It's likely that this is the most expensive or close to the most expensive home he has ever owned. Second, you don't know that he hasn't done a cash-out refinance; given that he today has little equity in the home, I'd say that's relatively likely. Third, 'paying a mortgage' is not the alternative to 'getting to live for free because everyone in this world is just so nice and friendly'. It's the alternative to renting. It may be that everything else you're saying is true and mortgages really are a trick of the man to keep the people down, but if paying a mortgage is cheaper than renting, before or after equity appreciation, it's still the optimal thing to do. Even if Joe Boomer were getting screwed by his mortgage, he may not do any better as a perpetual renter. Fourth, you ignore other financial and non-financial benefits of owning a home, like the ability to use a HELOC as springy debt, the ability to modify the home to your pleasing, the ability to build home equity through pleasurable and easy work, the greater sense of control given to homeowners than renters, security in extreme occurrences like hurricanes...

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And he is far from alone.  The average % of equity people have in their houses is very small compared to history.
[[Citation needed]]

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But, the facts are quite shocking.  If ownership is such a good deal, 40 years of payments and a tailwind of huge nominal appreciation of house prices over the past 4 decades should have made it incredibly easy for people to own their houses outright.  And yet millions and millions of people who benefitted from these tailwinds and made huge payments over very long periods of time did not benefit.
It's a mistake to assume that all American consumers share your values. The purpose of a mortgage is not owning a home outright for all consumers. That's why many consumers used the 'tailwinds' to trade up to nicer homes or in cash-out refinances to send their children to school or retire. Measuring mortgages by the proportion of consumers who outright own a home is thus problematic. And, again, you can't look at mortgages in a vacuum. They need to be compared to the alternative, which is renting. You're avoiding this, I suspect, because renting is typically more expensive, especially after principal paydown is considered. I know you're trying to anecdotally refute principal paydown, but it is still numerically significant.

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And that's before considering the opportunity cost.  If they could have saved just $100 a month by renting instead of owning, and invested that over the last 40 years, they'd all be millionaires.

You forgot to demonstrate that renting was cheaper than owning. I suspect you did this because renting is not categorically cheaper than owning, and in most markets, much of the time, owning is a better idea.

So, what went wrong?  I think several things: 

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1) these bad outcomes are from situations where people borrow from banks.  Buying outright saves tons of money in interest payments to banks.  If you buy a $200,000 with a mortgage and pay it over 30 years, even with 20% down, you could easily pay twice the purchase price in payments (even more in previous higher interest rate eras).  So, even with the opportunity cost, buying outright could be great, but borrowing money you couldn't save and paying a lifetime of interest to a bank creates a big headwind for any "investment."
This is a specious argument. You have to consider the time value of money and the effective interest rate of inflation, rather than look at the dollar value of interest paid, otherwise you're dramatically distorting the situation. If somebody offered you a 100-year-loan at 2%, I hope you'd have the good sense to take them up on it instead of decrying the large nominal value of interest.

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2) The housing bubble obviously hurt people.   Most people who bought anything between 2003-2008 have seen significant losses in equity.
This argument exhibits the recency bias. It was the most dramatic bubble in the entire 120 years of the Case-Shiller index, so using it as a 'typical' bubble is horribly misleading. Moreover, the losses in equity are not that significant when you consider that many states are non-recourse states and the rest are effectively non-recourse, limiting the borrower's losses to the equity of their house and not the entire value of the loan that they signed.

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3) The trade up mentality.  If over a lifetime people continued to reinvest housing gains in bigger and bigger houses, they never got the benefit of paying off that first house and living rent free in it.  They would argue that they captured their investment benefits in a steadily rising lifestyle in successively bigger and better houses.  Which is somewhat true.  But the problem is that it means that many people who "owned" all along still effectively became new leveraged buyers of big houses in recent (high-priced) years.
Other people not sharing your values is not a "problem". It's the way the world works. I don't say that the problem with this country is that other people go to NFL games that I think are stupid. I acknowledge that other people value different things than I do and move on with my life.

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4) The way mortgages amortize.  The principal paydown is backloaded.  In the first 10 years of a 30-year mortgage, owning and renting are similar.  Both people are "throwing money away" either on rent or on interest.  In the last 10 years o.f a 30-year mortgage, a lot of the payment really does build equity.  But if people move after 7 years on average, they never get to the sweet spot of principal repayment.  They just rent from banks instead of landlords
You're fundamentally misunderstanding how the math works, just like the people who think that compound interest is magical. Paydown can't be frontloaded or backloaded.
In a refinance, you're paying off a lower percentage (due to the amortization tables) of a lower sum (due to your equity paydown during your last mortgage), but you're still paying off more than you would have if you had not refinanced (Bad Money Advice has a decent explanation of this; I think he had a better one but my google-fu is failing me. In a move, if you're moving to a new place you're doing so with the equity you've built up and the trade up in your consumption should be considered independently of the amortization.

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5) Transaction costs.
Your math only works if you presume that you both live in one house the entire time, and that you do not live in one house the entire time. Hopefully you see why that's problematic.

tannybrown

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Re: Is Home Ownership Antithetical to FI?
« Reply #57 on: August 06, 2012, 09:30:32 AM »
We bought our first home in 2010 and are aggressively paying it off, as we're risk averse.  The benefit, for us, is that once it's paid off, the amount needed on a monthly basis drops significantly, so we're less at risk from a job loss scenario, can decide to do a half-way FI part time gig if we want, etc. 

I am happy to eat potential opportunity costs on $100k in order to lower risk & expenses.  Renting necessitates your stache to earn enough to cover your rent for a long time -- the numbers will typically suggest the stache can do that, of course.  I just don't want to test the theory with my actual money. :)

arebelspy

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Re: Is Home Ownership Antithetical to FI?
« Reply #58 on: August 06, 2012, 09:49:12 AM »
*, I typed up a reply, but then saw there was another page where people addressed it.  So I'll edit it a bit to remove some redundant stuff, but still post.

Champion, your post was well thought out, but it just isn't correct.

The reason people don't own their home by now is because they got greedy.  They did a cash out refi, second mortgage, etc. when they saw home values going up.  Then they spent that money.

Or they kept upgrading to a larger and larger home.

I know several people who didn't do so during the bubble, and own their home outright (or are only a few years from doing so).  I also know others who did do so, and are quite equity poor.

The problem with your argument is that math-wise, buying is still better than renting in many cases.

Even if you never own your home outright, if you've spent less over the years on mortgage payments, taxes, insurance, maintenance, and transaction costs than you would have on rent, you come out ahead.

Heck, there's many places right now where you see instant gain in cash flow by buying over renting (See: my renters paying 1k when the PITI is 400 .. closing costs are covered if you stay longer than two years in this particular instance).

Just because people are stupid doesn't make a case for the inferior path.  It makes a case that people shouldn't be stupid.

And the thing is, even if they don't have equity now, that's because they wasted it on boats and SUVs and vacations (see: my parents and in-laws).  Sure, if they bought in 03-07 they lost money, but that should be offset from equity in gains in years before that, unless they kept upgrading unnecessarily.  Only young people buying should be hurt, and they have years to recover. You say they don't have equity, I say they did, and extracted it, and got value out of it.  Those that didn't extract it have it in their house still, and have the value of it being paid off or close to.

Bottom line: Your argument that people buying and now not having equity means buying doesn't work is the same as if I said "The U.S. household's savings rate is lower than ever now.  Clearly saving hasn't worked, and people shouldn't save."

..that's ridiculous though.  People should save, and not waste their money, just as (in many cases) they should purchase a house and not waste their money when they do a cash out refi.
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Re: Is Home Ownership Antithetical to FI?
« Reply #59 on: August 06, 2012, 09:54:11 AM »
Grant and Rebel already addressed this, but Champion, you are arguing that buying a house is antiMustachian because many people who do not live by Mustachian principles make poor homebuying decisions. This does not compute; the problem, as with most other aspects of the consumerist lifestyle, lies in buying as much as (or more than) one can possibly afford, and in continuously inflating consumption throughout life. Buying a house per se is not the cause of these folks' equity and cash flow issues.

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Re: Is Home Ownership Antithetical to FI?
« Reply #60 on: August 06, 2012, 10:47:25 AM »
The numbers are all very important, and it seems that they can be swung both ways.

However, what seems to jump out to me is the Independence part of FI. What is the value of not being accountable to a landlord? How much more value can you create by investing your time in a fabulous garden on land you own as opposed to having no garden/no permission to create a garden/the knowledge you cannot compound your efforts over years? How much money can you save by making significant energy improvements instead of relying on the small kinds of changes that renters can make?

This may get at more the philosophical/emotional issues, but it is important to think of a home as a way to create both financial and personal value. As MMM's blog and the previous examples attest - almost anything can be mustachian or antimustachian (ex. cars, houses, groceries, etc.). Besides, all your "FU" money can't keep a landlord from being unpredictable either. He could raise the rent or sell the house out from under you. If it is all about independence, why let something so central to your life be out of your control?

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Re: Is Home Ownership Antithetical to FI?
« Reply #61 on: August 06, 2012, 01:39:37 PM »
We bought our first home in 2010 and are aggressively paying it off, as we're risk averse.  The benefit, for us, is that once it's paid off, the amount needed on a monthly basis drops significantly, so we're less at risk from a job loss scenario, can decide to do a half-way FI part time gig if we want, etc. 

I am happy to eat potential opportunity costs on $100k in order to lower risk & expenses.  Renting necessitates your stache to earn enough to cover your rent for a long time -- the numbers will typically suggest the stache can do that, of course.  I just don't want to test the theory with my actual money. :)
The above is what I thought before I read http://www.mrmoneymustache.com/forum/ask-a-mustachian/pay-off-house-before-early-retirement/msg9868/#msg9868 (and others in that thread).

If you invest instead of pay down the mortgage, you'll eventually have a big pile of cash/liquid investments, which you can then take to pay down in a lump sum if you so choose.

smedleyb

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Re: Is Home Ownership Antithetical to FI?
« Reply #62 on: August 06, 2012, 10:06:23 PM »
One thought for the discussion:

One interesting dynamic is that apartments are often rented and free-standing houses are often owned.  This can sometimes mean that for those who want to live in a free-standing house it can be more of a "buyers' market" for renters than for buyers.  In other words, there will be more competition to buy a for-sale house than to rent a house.  So if I want to live in a 4 bedroom house in a good school district, almost everyone who wants to live there will be "the buying type."  That means that if a few home-owners need to rent their places out, for example because they are moving and having trouble doing a short sale, or holding out for hoped-for price increases before buying, I will be one of the few possible renters.  I don't know if any of this is true, but I think it could be.  Even as the economy and culture have shifted and fewer people are blindly dedicated to owning, I think owning is still the dominant preference for families, suburbanites, etc.  And maybe being the contrarian in those markets could yield benefits because I'd be one of few potential renters and those who suddenly need to be landlords would have to compete for my business.  (and maybe buying an urban apartment where there's a strong culture of young professionals renting could have similar contrarian buyer benefits) 

What do you guys think about this?  Does this make any sense?  Anyone do well renting the type of houses that are often owned?  Anyone do well buying apartments to rent to young urban professionals?

I know a guy who's surfing from home rental to home rental and living well in the process. 

As far as urban apartments, your options seem limited (as in I doubt you can find many markets where the carrying costs are covered and then some by the rents), although my cousin in Detroit has bought a couple of cheap condos in the nice burb of Birmingham and makes a little each month while hoping for some long term appreciation.  I know because I almost bought one with him.
« Last Edit: August 06, 2012, 10:13:51 PM by smedleyb »

tannybrown

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Re: Is Home Ownership Antithetical to FI?
« Reply #63 on: August 06, 2012, 11:08:00 PM »
We bought our first home in 2010 and are aggressively paying it off, as we're risk averse.  The benefit, for us, is that once it's paid off, the amount needed on a monthly basis drops significantly, so we're less at risk from a job loss scenario, can decide to do a half-way FI part time gig if we want, etc. 

I am happy to eat potential opportunity costs on $100k in order to lower risk & expenses.  Renting necessitates your stache to earn enough to cover your rent for a long time -- the numbers will typically suggest the stache can do that, of course.  I just don't want to test the theory with my actual money. :)
The above is what I thought before I read http://www.mrmoneymustache.com/forum/ask-a-mustachian/pay-off-house-before-early-retirement/msg9868/#msg9868 (and others in that thread).

If you invest instead of pay down the mortgage, you'll eventually have a big pile of cash/liquid investments, which you can then take to pay down in a lump sum if you so choose.

The flip side is that after the home is paid off, you would have a lot more cash every month to invest in the market if you so choose. 

I think the pay-down vs. invest is a false dichotomy for the most part.  Few people approach either extreme (e.g. - put all money towards house and ignore all retirement investment...or continually pull equity out of a home loan to drop every cent possible into the market).  We nearly all do both -- the difference is just in the ratios.   For us, our approach is just a reflection of our risk-averse style. 
« Last Edit: August 06, 2012, 11:11:57 PM by tannybrown »

arebelspy

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Re: Is Home Ownership Antithetical to FI?
« Reply #64 on: August 06, 2012, 11:26:06 PM »
I see paying down the mortgage as more risky than investing, but to each his own.
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tannybrown

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Re: Is Home Ownership Antithetical to FI?
« Reply #65 on: August 06, 2012, 11:34:19 PM »
Understood.  I think the worst case scenario is that they lose their income and they still have mortgage payments left.   That could be a disaster since a refi is likely off the table -- it's a real risk. 

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Re: Is Home Ownership Antithetical to FI?
« Reply #66 on: August 07, 2012, 05:03:28 AM »
Hi all,

Thanks for all the great responses to my post where I talked about how a lot of baby boomer aged people have been making mortgage payments for 30-40 years and still have little equity in their houses and several more decades of mortgage payments to go. 

A few thoughts:

1) One of you asked for a citation on the "Americans have a lower % of home equity today than in the past" claim.  Here's a quote from the AP, from June 2011:  "The percentage of their homes that Americans own is near its lowest point since World War II, the Federal Reserve said Thursday. The average homeowner now has 38 percent equity, down from 61 percent a decade ago."  Overall mortgage debt has risen faster than house prices.  (A lot of this is the bubble and bust effect, a lot is the equity extraction effect.)

2) Several of you made similar great points:
a) Just because some average homeowners didn't do well with owning, doesn't mean that homeownership is antimustachian or a bad idea
b) Many people did get benefits from owning houses and the tailwinds of nominal price increases, etc., but those benefits didn't show up as increased equity or paid-off houses, they were consumed in other ways (trading up to nicer houses, extracting equity for other spending, etc.)  But they still got benefits from owning (even if they sometimes spent those benefits in non-mustachian ways)

I agree with these points, and I wasn't trying to suggest that owning is always bad or can't work out well, especially for thoughtful mustachians.

Here are a few follow-up thoughts: 

a) I think that for much of the time in recent decades, ownership costs exceeded rental costs.  People on average had a lot of confidence in the American Dream, in the value of homeownership as an investment, etc.  Easy credit, favorable tax laws, strong cultural beliefs, and a history of rising prices, all combined to make people's "willingness to pay" quite high, and pushed up the prices to own.  People preferred to own, and they paid up for the privilege.  And once someone was on the ownership ladder, they rarely revisited the "rent vs. buy" price comparison.  People paid a premium to own.  And it's still true that low interest rates allow "how much monthly payment can I afford" leveraged buyers to pay much higher purchase prices for houses than the market would bear if more cash savings were required. 

So, it may well be that today in many places owning is cheaper than buying, but in many places in many years this has not been the case.   

b) I tried to make the claim that the lack of principal paydown/equity accumulation for many owners over the past few decades was a knock on homeownership, and you guys correctly pointed out that many of those owners got benefits and just consumed them in other ways than accumulating equity. 

But I still do think there were a few factors that hurt even the frugal ones who were trying to focus on building equity, leading to results that were worse than expected given increases in nominal house prices.  I guess what I'm trying to say is just that I think the combo of mostly-interest mortgage payments in the early years, high frequency of moving, and high transaction costs reduced the gains from ownership somewhat relative to what one would expect just looking at the upward trend of house prices over the past few decades. 

I think the numbers usually look great for buying if you assume you'll stay put for 30 years.  But the average American moves houses 4 times(!) during a 30 year period.  That meant 28% of the average asset value over the period disappeared, paid to realtors (7% 4 times) (this ignores closing costs, legal costs, loan fees, etc., which could take the transactions costs up to 10% per move.)

And if you ran the numbers for one 30 year mortgage you expected to be a big payer-downer of principal, but instead you paid the first 7 years of a 30 year mortgage 4 separate times and were more of an interest payer.  This is based on the way mortgages amortize.  It's not a scam and it's not a logic error, it's just a fact--you owe more interest each month at the beginning when the loan is bigger.  If you plan to pay a fixed amount over 30 years, more of the principal repayment happens later in the mortgage term.  If you stay put for 30 years, you build equity through principal paydown and appreciatation.  If you move every 7 years, you are more like a renter with an option on home price appreciation.  Unless you are making extra payments, you only build significant equity in the early years if the price goes up. 

I think this would be a surprise to the average American, who believes that "renters are throwing money away" while owners with mortgages "are building equity." 

Mustachians don't fall for fallacies or banker/realtor spin.  But they still face one big headwind, which is that they are bidding for houses against people who DO fall for the spin.  Today may be a much better time to buy than usual, because the faith the average American has in housing has been shaken.  But even today, the majority of buyers are NOT comparing the costs of owning vs. renting, and ARE erroneously assuming that paying the bank rather than the landlord somehow creates wealth even if prices don't budge and even if they move every 7 years.  And the existence of these types of competing bidders pushes up prices. 

So, yes, I agree that a former buyer's lack of equity today doesn't prove that ownership is bad.  In many cases people extracted the value of their equity one way or another.  But I think the headwinds of mortgage interest, transaction costs, and moving frequency are real, and are underestimated. 

What do you think?

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #67 on: August 07, 2012, 08:08:16 AM »
I think those are valid points and your reasoning works.

I suppose that the theoretical debate about how the average buyer acts is less interesting to me than the question of how can this type of investment be maximized.   I suspect many on this board are in the same position.  It is practical advice on how to increase success and roi that are most helpful.  Pointing out the traps is part of this, but it is a lower rung on the ladder of knowledge imo - it is 101 and not a bolt of lightening.

I do believe home ownership brings emotional benefits that have to be accounted for, but it is an investment too.  Just like many of you have reduced transaction costs and found ways to maximize roi for stocks/bonds ect. ie. Vanguard, so too can this be done for a primary residence or rental properties.   Here are some ways:

1. put in a suite
2. buy multi-family
3. inspect thoroughly before purchase and know the big ticket items (roofs, perimeter drains, foundation ect.)
4. analyze rent vs. buy on paper first
5. lock in long term low mortgage rates now
6. understand the tax laws thoroughly for primary and rental properties
7. build good credit
8. find like-minded people to discuss real estate with and learn from them
9. turn a place into a vacation rental (weekly)
10. rent furnished
11. sell yourself and don't use a realtor
12. buy private sales from homeowners directly
13. keep accounts of your costs
14. research trends
15. be handy and fix it up yourself
16. make good contacts with the trades
17. buy reno materials on craigslist or other second-hand places (really huge savings)
18. think about student rentals and buy near a college or university
19. learn about landscaping

I could go on, and I'm sure others have better tips for the US.  My point is that home ownership can be a great investment if you control for risk and cost and go into it with this in mind.  Here are the benefits for me:

1. my cost of living is lower than renting because of rental income in my primary residence
2. I accumulate equity through principal paydown
3. security of owning (can't be asked to move)
4. cash flow positive rentals
5. opportunity to increase value through low cost renos and fix ups
6. potential long-term appreciation

There are downsides too, real estate is not passive.  If you would prefer to have a landlord do everything and are not handy things shift a bit. 

grantmeaname

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Re: Is Home Ownership Antithetical to FI?
« Reply #68 on: August 07, 2012, 08:35:09 AM »
I think the numbers usually look great for buying if you assume you'll stay put for 30 years.

We've demonstrated examples as short as 2 years in this thread, and I think periods much, much shorter than 30 years often make sense. It's fallacious to say that because 30-year repayment times make sense, only 30 year repayment times make sense and other periods must not. Do you have a statistic showing that a much shorter period, like the seven year timeframe you discuss below, doesn't make sense?

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But the average American moves houses 4 times(!) during a 30 year period. 
I'm sure that the average American and the median American do not behave the same way. I'm willing to bet renters move much more often than owners and that skews the average and makes it unsuitable both to describe a typical American's behavior and especially to describe a typical American homeowner's behavior. Of course, if you were to provide a source we could always look at the actual numbers and see what they mean.

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That meant 28% of the average asset value over the period disappeared, paid to realtors (7% 4 times) (this ignores closing costs, legal costs, loan fees, etc., which could take the transactions costs up to 10% per move.)
That seems like an awfully pessimistic estimate of the transaction costs for buying a house. You're also assuming that every person who moves both buys and sells a house and does so through a realtor, when in fact many go from buying to renting, renting to buying, or renting to renting and won't incur both the selling commission and the buying commission. Also, as totoro and other have pointed out, you don't have to use a realtor.

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you paid the first 7 years of a 30 year mortgage 4 separate times and were more of an interest payer. This is based on the way mortgages amortize.

Your interest is based on your outstanding balance, and your outstanding balance only changes based on consumption decisions like a cash-out refinance, home equity loan for renovations, or moving to a bigger place. I'm having trouble wording this in a clear way, so let's use an example.

Let's say you take out a $100k 20-year mortgage and pay it for seven years at 4%. You'd have an $86059 balance after your 84th month. Payment 85 would be $190.55 of principal and $286.86 of interest. You are paying $286.86 in interest because $286.86 is one twelfth the annual interest on borrowing $86059 at 4%. If you were to refinance that $86059 at 4% in a new thirty-year loan at 4%, your first payment would be $410.86. Of that, $286.86 would be interest, because $286.86 is one-twelfth the annual interest on borrowing $86059 at 4%. Literally nothing has changed! If you were to send in $66.55 extra every month to make up for the $66.55 cheaper that the payment got, you would even pay off the mortgage in 23 years, just like if you hadn't refinanced.

And you're still ignoring the time value of money, which is a huge factor in a period as long as thirty years! Your last payment, thirty years later, is only 42% of your first payment in real, inflation adjusted dollars (assuming 3% inflation per year). Meanwhile, your house has appreciated with (actually, probably slightly faster than) inflation.

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If you move every 7 years, you are more like a renter with an option on home price appreciation.  Unless you are making extra payments, you only build significant equity in the early years if the price goes up.
Even if you don't build equity, you are still benefiting from inflation eroding your payments. If renting were exactly the same as owning the zeroth year, it would be 23% more expensive the seventh year just due to the erosion in payment price due to inflation.

COguy

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Re: Is Home Ownership Antithetical to FI?
« Reply #69 on: August 07, 2012, 10:29:10 AM »
I was actually looking at various apartments available in MMM's hometown in order to illustrate my point that one could just as easily find a unit for around $1000 that is clean, safe, and has all the basic amenities a 3 person household needs in order to life comfortably.

I think we may have greatly differing ideas on just what is needed for a comfortable life.  I doubt those apartments have gardens, space for fruit & shade trees, room for the dogs (or kids, if I had them) to play...

Oddly enough, $1K is about what I pay for mortgage, taxes, and insurance, though it's a different market.


As it turns out I live in one of those apartments.  Where I live for less than $1000 in Longmont, CO you get 2 bedrooms (I only live in one bedroom for even less though) with a pool, trees for shade, grass for kids, pets etc.  Lower utilities, no maintenance, etc...Plus I live about a block from a lake with a view of Long's Peak in its 14,000 ft splendor.  To live that close to that lake as an owner would cost me a lot more than I am paying today. 

If you want a garden, there are plenty of community gardens around that you can get a plot at.  Maybe even make some new friends in the process.

Of course, if I had kids and pets I would look at it differently.  And I can definitely see the non-financial benefits of buying and doing you own maintenance etc.








tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #70 on: August 07, 2012, 10:51:24 AM »

1. my cost of living is lower than renting because of rental income in my primary residence


Being a landlord even if it is a multifamily property that you live in is a discussion different than the OP's question, but I agree with you.

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #71 on: August 07, 2012, 11:03:00 AM »
Being a landlord and owning a home are sometimes part of the same package - particularly if you are looking at frugal home ownership options.

ROI is important in any investment.  If you don't believe in certain types of companies you can make a personal choice and not invest even if you lose a higher rate of return.  For home ownership, there are many discretionary decisions, including duplexes or houses with suites.

I myself think that iif someone is willing to rent in an apartment but could live in a house with a small suite and have fewer neighbours and a big back yard to themselves for less than the rent on an apartment this might be a valid consideration when analyzing the op's question of: "..is home ownership antithetical to FI?"

If the question was "is single family home ownership antithetical to FI", well, in some markets it might be.  Maybe that was the question? 

For me, this is like asking if investing makes sense and relying on the fact that the average person might be paying for a financial advisor as the basic assumption.

champion

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Re: Is Home Ownership Antithetical to FI?
« Reply #72 on: August 07, 2012, 11:09:38 AM »
Hi grantmeaname,

Thanks for responding.  Okay, a few short replies from me going through your points:

1) I didn't mean to say only staying put for 30 years works.  I just meant that the longer you stay put, the better owning looks

2) On moving frequency, I've been looking for a source and don't have anything good.  I think the 7 years number is for homeowners moving, not for everyone.  Renters move even more frequently, every 3-4 years.  Apparently the NAR is one source of this info.  That said, homeowner moving rates vary dramatically by age, with younger owners moving more often than older.  So saying people move every seven years is a big simplification.  I guess the takeaway is, a mustachian move is to be sure you want to stay for a while or you are willing to become a landlord, and you can reduce total lifetime real estate transaction costs.

3) Agreed, 7-10% transaction costs are high and there are good mustachian ways to reduce them

4) Thank you for running through the math on the old vs. new loan.  Very helpful and clear.

5) So, then, combining your points 4 and 5, you talk about inflation.  My example left inflation out on purpose.  In my example, if there is no inflation and people move regularly, homeowners would find that their "ownership" wasn't helping them relative to renters, and they would be surprised. 

I agree that one of the strongest arguments for owning is inflation.  You can lock in a fixed housing cost (vs. rent which goes up) and the value of the house should (on average, depends on starting point, etc.) go up with inflation.  So, in simplified examples, assuming house price goes up exactly with inflation, the following would be true:
* if you bought with all cash, your benefit would really just be the fact that your payments would be lower each month than the costs of a renter whose payments would go up wth inflation, forever.  If the buyer's costs were equal to the renters in in Year 0, they could go below 50% of a renters costs near the end of a 30 year mortgage (with 3% inflation), then even less thereafter (no more mortgage payments, just taxes and maintenance which should be an even smaller % of a renter's cost,  going up with inflation)   
* if you bought with a mortgage, the nominal gain in house price would translate into a leveraged gain on your equity, for a second benefit of real capital appreciation
(And if the house went up faster than inflation, the buyer would do even better)

However, I think there's one small detail in your explanation that doesn't make sense to me.  Let me walk through this.  If the buyer is benefitting from inflation, and we're assuming that house prices are going up with inflation, then when the buyer moves to a new house after 7 years, the equivalent house (no trade up), will cost more money.  So it's not exactly true that moving is irrelevant to the principal paydown question.  I just ran some numbers, and what ends up happening is, at any given level of inflation, both your equity and the overall cost of the house have gone up.  And if you want the same level house on the next buy, you have to put in new equity or new mortgage borrowing equal to the transaction cost you paid to move.  So here's the example, building on yours:  $125,000 house, 20% down, $100,000 mortgage, 3% inflation.  At the end of 7 years, house is worth $154,000, assume you pay 7% transaction cost of $11,000, your equity has grown to $57,000 (new higher home price minus $86,000 mortgage principal remaining minus 7% transaction cost to sell and rebuy).  Now you want to buy the same quality house, which now costs $154,000.  You roll your $57,000 in equity into it, and now you need a larger mortgage of $96,000, not just the $86,000 you owed before.

Now, all this really proves is some obvious stuff that you knew anyway, but I wanted to think it out for myself.  It seemed like you were suggesting that a series of mortgages is the exact same thing as one longer 30 year mortgage.  That's partly true, but the obvious stuff I proved to myself is:  a) the transaction costs are real costs that decrease overall returns vs. buying and holding longer; and b) when you move in a rising market, you end up paying more in nominal terms for the same quality house on the subsequent transactions.  You have to feed a bit of new money into the system, either by replacing the amount your equity was reduced by transaction costs or by taking out a slightly bigger mortgage, effectively financing the transaction cost.

So the conclusions for me are:
1) You have to include transaction costs in the up-front analysis of whether to buy or rent
2) The less frequently you move, the better
3) The relative monthly cost of renting vs. buying is an important driver
4) And, all other things being equal, a lot of this is a levered bet on inflation

So, if the monthly costs of renting and buying are equal, then inflation has to be high enough to overcome the expected transaction costs. 

If you do buy and hold for 30 years, or get enough inflation to cover any transaction costs along the way, then you do get an amazing benefit vs. renting which is that the payments do end, which they never do with renting. 

But if we are just focused on renting vs. buying over a short time-period in a house, e.g. 7 years, the small principal repayment and the transaction costs partially cancel each other out, and ultimately you're just making a bet on inflation.  If  prices go up, it's great.  If they stay flat, it's so-so.  But if they go down, the leverage works against you.  (I know that this isn't new information.)

But the point I guess I'm still trying to make is that most "equity building" in the early years of owning a house depends on inflation.  Without inflation, the principal repayment factor is slow in the early years, and is partly offset by transaction costs. 

One other plug for renting--it can give you major flexibility to save costs in other ways.  You can shop for good deals on rentals every single year, whereas as a homeowner you need to get a good deal at the outset, because you won't have the same flexibility to bargain hunt along the way.  Also, renting gives you more flexibility to change jobs to increase income, and to rent a place close to work and go carless even if your job location changes.

So, given all this, if you knew at the outset that it was unlikely you'd stay somewhere more than 7 years, the two questions that matter most are:  1) what is the cost difference at the outset?; and 2) do you expect house price inflation or not?

I personally don't expect house price inflation in the near term.   I think prices are sticky and sellers are stubborn.  I think we still have a way to fall in price to income ratios.  I think most Americans have less ability to save up a down payment than they did a generation ago.  etc.

That said, there is something asymmetric about this.  If inflation soars, the levered gains on equity could be 1000%.  Whereas you can really only lose 100% of your equity to deflation.  So maybe some real-estate is a necessary inflation hedge for everyone.  Just to hedge against paying $50,000/month in rent down the line.


tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #73 on: August 07, 2012, 11:15:10 AM »
....I'm willing to bet renters move much more often than owners and that skews the average and makes it unsuitable both to describe a typical American's behavior and especially to describe a typical American homeowner's behavior.

I have relationships with people that own large professionally managed complexes and they say on average tenants stay approximately 2.5 year so renters to move more frequently than owners.  I don't know how this translates to other types of rentals though. 

Although, historically speaking, even before the housing boom, it was general convention that people moved on average every seven years on average - a lot of it is attributed to moving up based on the stage of life/maturity (as opposed to moving up for bling)....a new grad buys a condo....then gets married and moves up to a starter family home....then has a second or third kid and needs/wants a bigger house in a better schoold district....then downsizes at retirement.  That is general cycle.  It has certainly adjusted throughout time but I think it still holds true for the most part. 

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That meant 28% of the average asset value over the period disappeared, paid to realtors (7% 4 times) (this ignores closing costs, legal costs, loan fees, etc., which could take the transactions costs up to 10% per move.)
That seems like an awfully pessimistic estimate of the transaction costs for buying a house. You're also assuming that every person who moves both buys and sells a house and does so through a realtor, when in fact many go from buying to renting, renting to buying, or renting to renting and won't incur both the selling commission and the buying commission. Also, as totoro and other have pointed out, you don't have to use a realtor.

The view may be pessimistic but it is a major issue for homeownership in the short term, you absolutely need some appreciation to get back your principal and offset the upfront and backended transaction costs, which are usually 1-2% upfront and on the backend for for title, appraisal, inspection, transfer taxes, and other various fees - I exclude pro-rations because they expenses that you would incur anyway and this is before realtor costs.  You don't need a tremendous amount of appreciation to cover these but you do need some. 

Also while it is possible to go without a realtor most don't and even those that do still have to offer to pay the buyers realtor (2.5-3%) or you simply won't get any looks. 


tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #74 on: August 07, 2012, 11:16:57 AM »
I think this would be a surprise to the average American, who believes that "renters are throwing money away" while owners with mortgages "are building equity." 

I can't tell you how many people want to buy a house simply due to the fact they think they are throwing money away...and I waste my time trying to explain that is not necessarily so.

tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #75 on: August 07, 2012, 11:21:12 AM »
If the question was "is single family home ownership antithetical to FI", well, in some markets it might be.  Maybe that was the question? 

Yes I beleive this is the OP's question. Again I wasn't disagreeing with your position, but your scenario would be better compared as should I either (1) buy one house to live in and one to rent or (2) buy a four-plex and live in one of the units.   

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #76 on: August 07, 2012, 11:29:17 AM »

Also while it is possible to go without a realtor most don't and even those that do still have to offer to pay the buyers realtor (2.5-3%) or you simply won't get any looks.

Might be different here in Canada but this is certainly not true here.  The buyer is responsible to pay their realtor's commission.  Many many buyers do not use realtors here.  If you are on MLS and priced competitively you will get a lot of responses even if you offer zero commission because buyers search MLS listings constantly.  Here the advantage of having a realtor is a that buyers get access to MLS listings two days earlier than everyone else.  This can be a great advantage for a buyer in a competitive market.  Not the case right now.

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #77 on: August 07, 2012, 11:34:25 AM »
If the question was "is single family home ownership antithetical to FI", well, in some markets it might be.  Maybe that was the question? 

Yes I beleive this is the OP's question. Again I wasn't disagreeing with your position, but your scenario would be better compared as should I either (1) buy one house to live in and one to rent or (2) buy a four-plex and live in one of the units.

Where I live buying a house to rent and a house to occupy is far less advantageous than a house with a suite that you install yourself.  Apples and oranges. 

Four-plexes are sometimes a good purchase but often overvalued.  Houses with self-installed suites beat them.  Condos don't work unless they are vacation rentals because of the strata fees and fact that they appreciate less than units with more land.

I suppose it comes down to local knowledge accounting for vacancy rates and rent vs. buy for various types of shelter.  Which might be the bottom line answer to the op - blanket statements don't work and there are usually out of the box thinking or DIY solutions to increase ROI for most types of investments.

grantmeaname

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Re: Is Home Ownership Antithetical to FI?
« Reply #78 on: August 07, 2012, 11:47:29 AM »
I guess the takeaway is, a mustachian move is to be sure you want to stay for a while or you are willing to become a landlord, and you can reduce total lifetime real estate transaction costs.
I totally agree. Seeing that this is where the big costs lie underscores the importance of controlling them as tightly as possible.

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4) Thank you for running through the math on the old vs. new loan.  Very helpful and clear.
I'm glad. Like I mentioned before, I thought Bad Money Advice had a brilliantly clear post on the matter but I couldn't for the life of me find it.

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in simplified examples, assuming house price goes up exactly with inflation, the following would be true:
...
Yeah, that sounds about right

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but the obvious stuff I proved to myself is:  a) the transaction costs are real costs that decrease overall returns vs. buying and holding longer; and b) when you move in a rising market, you end up paying more in nominal terms for the same quality house on the subsequent transactions.  You have to feed a bit of new money into the system, either by replacing the amount your equity was reduced by transaction costs or by taking out a slightly bigger mortgage, effectively financing the transaction cost.
Yeah, that's correct. And as you note a bit later, the large magnitude of some of the transaction costs means they can have an effect on your overall return.

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But if we are just focused on renting vs. buying over a short time-period in a house, e.g. 7 years, the small principal repayment and the transaction costs partially cancel each other out, and ultimately you're just making a bet on inflation.  If  prices go up, it's great.  If they stay flat, it's so-so.  But if they go down, the leverage works against you.

If the markets were efficient and each city's housing market's sale and rent prices corresponded exactly, then yes. But as arebelspy pointed out, this often isn't the case. Some markets (San Francisco, New York) are terrible places to own relative to renting, and other markets (Las Vegas, Pheonix, Detroit) have such cheap housing right now that they're terrible to rent in and you can break even in no time.  There's a really good calculator maintained by the New York Times that lets you play with the different variables involved (the advanced tab even lets you play with closing costs and the like).

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So, given all this, if you knew at the outset that it was unlikely you'd stay somewhere more than 7 years, the two questions that matter most are:  1) what is the cost difference at the outset?; and 2) do you expect house price inflation or not?
For Mustachians, I would add sweat equity and subletting part of an owned housing unit to that equation. Those are going to be very important for me.

champion

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Re: Is Home Ownership Antithetical to FI?
« Reply #79 on: August 07, 2012, 11:55:19 AM »
@grantmeaname:  Awesome.  Good dialogue.  Thank you!

@totoro:  Can you tell us more about the option of a suite you install yourself?  It sounds like a cool idea, reduces the landlord hassles to some extent, and it sounds like it costs less to install it than it would to buy a rental property as a standalone and also costs less than buying a house that already has a separate tenant unit attached.

The kinds of questions in my mind are:
what is the unit like?
what does a renter need? (e.g. separate entrance, bathroom, etc.?)
How big of a house to you need to buy to have room to install such a unit?
Where do you install it? 
How do you install it? 
How much does it cost? 
How do we learn more about such a thing? 

grantmeaname

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Re: Is Home Ownership Antithetical to FI?
« Reply #80 on: August 07, 2012, 12:14:25 PM »
Eldub talks a little about their plan to build a suite into their house's basement here, but they dropped off the face of the earth so we don't really have progress updates.

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #81 on: August 07, 2012, 12:27:01 PM »
@grantmeaname:  Awesome.  Good dialogue.  Thank you!

@totoro:  Can you tell us more about the option of a suite you install yourself?  It sounds like a cool idea, reduces the landlord hassles to some extent, and it sounds like it costs less to install it than it would to buy a rental property as a standalone and also costs less than buying a house that already has a separate tenant unit attached.

The kinds of questions in my mind are:
what is the unit like?
what does a renter need? (e.g. separate entrance, bathroom, etc.?)
How big of a house to you need to buy to have room to install such a unit?
Where do you install it? 
How do you install it? 
How much does it cost? 
How do we learn more about such a thing?

I only have my own province-specific knowledge to go by but here goes:

Local bylaws may or may not allow secondary suites - you need to check.  Of course, many go ahead without permits but there may be an impact on your home insurance and what will be covered if there is a fire for example.

In general, you need approx 2000 square feet if you intend to live in the larger unit.  Best to buy split level with above ground walk-out main that can be suited with a separate entrance and separate yard area for the tenant.  200 amp service necessary.  I like separate hot water tanks, in-suite washer/dryers and dishwashers.   

I have built two two-bedrooms one bathroom suites in houses this way.  Soundproofing is very important - we use special drywall and insulation made for this - helps with fireproofing too. 

As far as cost, if you are not able to do the work yourself it will cost a fair bit.  I was quoted an average of $40,000 for approx 900 square feet.  We are doing it ourselves though and I expect it will end up at less than $20,000.  Biggest expenses are plumbing and electrical (bathroom and kitchen esp). 

We have already saved $10 000 on this suite by being the general contractors ($6000 estimated charge on my quote) and taking out the old drywall ect. and taking it to the dump ($4000 estimated charge on the quote).  I did spend money on professional floor plans for one suite I built but I don't believe it was worth it.

We buy the materials from craigslist primarily and look for very good quality.  I spend money on some newer high-end finishes because renters like them (me too :)) and turnover is expensive.  I spend money on tile backsplashes, countertops, nice flooring, nice lighting and upscale fixtures.  I save A LOT of money on kitchen cabinetry, doors, windows, bathtubs, toilets, sinks, fridges, washer/dryer combos and stoves by buying them second-hand.  I found a set of oak kitchen cabinets for our current suite for $350 online - people are always upgrading their kitchens and baths - sometimes after only a couple of years!  This would have been at least $3000 new.  All we need to do is add some very nice knobs and pulls and it will look great. We had to go pick them up ourselves but that was no big deal.  Less work than buying cheaper units that have to be assembled.

My other house with a suite that we built is rented out furnished.  I bought all furniture except for the beds second-hand.  It cost very little and looks great.  Better quality than Ikea or other cheaper stylish new furniture.  It was fun for me to do this and we get higher rents.

Once this suite is done our next project is renovating one unit in the triplex we have.  I am pretty excited about that.  We live there but will move temporarily in September to reno the unit we live in once we have collected all the materials.  As we plan to stay in here long-term it will be really fun to make it great.  I've already found two fine sets of wood french doors ($130 each set) and a chandelier I am going to hang over the dining room table ($50).  I'm actively searching for reclaimed wood flooring.   It appeals to the hunter gatherer instinct I think :)

tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #82 on: August 07, 2012, 12:32:09 PM »

Also while it is possible to go without a realtor most don't and even those that do still have to offer to pay the buyers realtor (2.5-3%) or you simply won't get any looks.

Might be different here in Canada but this is certainly not true here.  The buyer is responsible to pay their realtor's commission.  Many many buyers do not use realtors here.  If you are on MLS and priced competitively you will get a lot of responses even if you offer zero commission because buyers search MLS listings constantly.  Here the advantage of having a realtor is a that buyers get access to MLS listings two days earlier than everyone else.  This can be a great advantage for a buyer in a competitive market.  Not the case right now.

I tend to lose sight of the fact that there people on here from other countries - and things can be different.  It is different, in the US it is customary for the seller to pay the whole realtor's commission for residential property, not sure why it evolved this way, but I suspect it contibutes to why realtors ultimately won't go away like you have in Canada.  Afterall, if someone will provide you listings right when the come online, will drive you to and from the various showings, and will help you with the documents and the like, and you get all this for the bargain basement price of $0 why wouldn't you use a realtor as buyer....because of this it is also why buyer's realtors will not show a house unless they no they will get paid.  Sure this can be negotiated with their clients but when it isn't cutomary it will sound like one is paying 3% more for the house. In reality, it isn't true as money is fungible and it is baked into both sides already but as it goes "perception is reality."

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #83 on: August 07, 2012, 12:37:46 PM »


 It is different, in the US it is customary for the seller to pay the whole realtor's commission for residential property, not sure why it evolved this way, but I suspect it contibutes to why realtors ultimately won't go away like you have in Canada.  Afterall, if someone will provide you listings right when the come online, will drive you to and from the various showings, and will help you with the documents and the like, and you get all this for the bargain basement price of $0 why wouldn't you use a realtor as buyer.... [/quote]

Listing realtor's split their commission with the buyer's realtor in Canada but the buyer's realtor has an agreement with the buyer's that they get paid this amount irregardless of whether there is a listing realtor agreement in place.  This means the buyers end up on the hook for this if the FSBO won't pay it.  It is sometimes a negotiation point.  With the internet I don't see the need for a buyer's realtor.  Here in Canada some realtors will provide access to the advance listings without signing an agreement.

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #84 on: August 07, 2012, 12:38:29 PM »
Eldub talks a little about their plan to build a suite into their house's basement here, but they dropped off the face of the earth so we don't really have progress updates.

Too bad - I'm in Victoria too!!

grantmeaname

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Re: Is Home Ownership Antithetical to FI?
« Reply #85 on: August 07, 2012, 12:42:14 PM »
I posted in the thread. Maybe if she's got email notifications on she'll see and come visit.

tooqk4u22

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Re: Is Home Ownership Antithetical to FI?
« Reply #86 on: August 07, 2012, 12:45:10 PM »
Listing realtor's split their commission with the buyer's realtor in Canada but the buyer's realtor has an agreement with the buyer's that they get paid this amount irregardless of whether there is a listing realtor agreement in place.  This means the buyers end up on the hook for this if the FSBO won't pay it.  It is sometimes a negotiation point.  With the internet I don't see the need for a buyer's realtor.  Here in Canada some realtors will provide access to the advance listings without signing an agreement.

In the US the contract also indemnifies the buyers realtor to ensure that they get, so maybe it is more of the same.  If a buyer with realtor is looking at FSBO deals then the buyer will expect to pay less for the house or for the seller to pick up the tab.  Psycology and customs drive it but it is changing.

I actually believe the opposite - I don't think you need selling realtors.  At least the buyer's realtors are doing all those things.

totoro

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Re: Is Home Ownership Antithetical to FI?
« Reply #87 on: August 07, 2012, 12:54:01 PM »
Listing realtor's split their commission with the buyer's realtor in Canada but the buyer's realtor has an agreement with the buyer's that they get paid this amount irregardless of whether there is a listing realtor agreement in place.  This means the buyers end up on the hook for this if the FSBO won't pay it.  It is sometimes a negotiation point.  With the internet I don't see the need for a buyer's realtor.  Here in Canada some realtors will provide access to the advance listings without signing an agreement.

In the US the contract also indemnifies the buyers realtor to ensure that they get, so maybe it is more of the same.  If a buyer with realtor is looking at FSBO deals then the buyer will expect to pay less for the house or for the seller to pick up the tab.  Psycology and customs drive it but it is changing.

I actually believe the opposite - I don't think you need selling realtors.  At least the buyer's realtors are doing all those things.

I don't think you need either.  I have a car and a phone and can arrange my own visits.  I can view MLS listings and FSBO listings online from the comfort of my home.  I can negotiate the deal myself because I've spent a lot of time reviewing real estate in my market.  I see no reason why I would pay someone $10 000 in after tax dollars for this service.  A negotiation in price that pays for this is still a loss.  Not having a buyers realtor means that I can negotiate for a discount with the listing realtor by emphasizing that they will not have to pay this.  One time the listing realtor gave the estimated buyer's realtor commission to the sellers so they would lower the price for us by that amount and the realtor could have the commission in hand (it had taken a while to sell).   You will find that a seller's realtor has very little economic motivation to protect the listing price as their commission is a smaller percentage of the price and is affected only slightly by price reductions.  The faster the realtor gets their commission the better and the least work for the money.

Here the listing realtor pays for some advertising, takes photos and pays for the MLS listing and arranges all the showings and holds them.  I don't believe any advertising but MLS and online free postings is necessary any longer.  The photos and listing I can get for $600.  I can show my own home and arrange this (although it is a bit of a pain but cleaning for showings is always a pain).  I don't see why I would pay someone $15 000 for this.  I could pay someone to show the home for far less than this (most would be $800 by my reckoning if it even took 40 hours of work).

Jamesqf

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Re: Is Home Ownership Antithetical to FI?
« Reply #88 on: August 07, 2012, 12:57:21 PM »
For interest, a few numbers.  Bought this house in '98 or '99, with 20% down.  Refinanced a couple of years ago for the lower interest rate (no cash out) to a 20 year mortgage.  So of each monthly payment (which is about the same as renting a good apartment), currently 20% is going to taxes & insurance, 34.2% to principal, and 45.8% to interest (at 4.5%). 

(Some of the interest & property tax is deducted from income tax - too complicated to figure here, since I use part of it for business and so it comes off business income before SSI payments...)

Not sure of the current market value, but at a guess it's somewhere between 150% and 200% of the mortgage amount.  So the chunk of each monthly payment that effectively goes into my own pocket is close to half of the total, and increases over time.  Not a bad deal, I think.

eldub

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Re: Is Home Ownership Antithetical to FI?
« Reply #89 on: August 07, 2012, 05:07:51 PM »
Hey, not dropped off the face of the earth! Thanks Grantmeaname for pulling me back in.

Progress is good on our secondary suite.  My Mr. expects to be finished it by the end of August, on time and on budget despite uncovering lots of nasty surprises that cost more time and money than anticipated. Standard renovation story. Luckily he is in the trades so we have got contractor prices or buddy rates on almost everything. Average Joe would have had to pay a lot more than we did.

We drew on our equity to build it, but have a 106-year old house that needed a lot of work just to get to the point where we could begin to build it.  In the end the SOB will probably have cost us in the neighborhood of $75,000. We went from a variable mortgage of $350,000 at Prime - 0.6 to $410,000 fixed at 3.29.  Monthly P+I+taxes went up by about $360 per month x 25 years.

We expect to rent the suite for $1300 - $1400 per month. In Canada, we can also write off a percentage of our mortage interest, property taxes, utilities if included in the rent. I'd estimate that will lower our taxes by around $200 per month as well, but the rental income itself is taxable.

Our tenant will be paying more than half our mortgage+taxes every month despite living in less space. Rental unit is around 750-800 square feet vs. upstairs 930 square feet. We have kept the difference downstairs for untility/storage room. Mr. also built a 100 square foot shop in the backyard since he lost his basement workshop.

I feel like it was the right choice for us. We can direct our rental income towards debt repayment and savings. Yes, we have borrowed the money and amortized over 25 years. But with a $1300-$1500 daycare bill every month, we felt like we couldn't afford NOT to do it.

That's a rundown of where we're at. Anything more I can answer, just let me know