Steven here from munny.club, a weekly newsletter where I share a different perspective on personal finance concepts. If this doesn't interest you or you don't find it valuable, you can unsubscribe at the bottom of this email. If you have feedback, just shoot me a reply!
It has taken me a long time to formalize my thoughts on real estate. I received a question several weeks ago from a reader for my thoughts on the topic, so some of what I had written to him. For context: I rent. This is a collection of non-sequential ideas that I have. Feel free to disagree with any of them, I'd love to hear your thoughts.
Buying a House versus a Home
I am generally of the opinion that it's bad to mix the personal and the financial in your real estate decisions. This means I'm not against buying real estate for living in, nor am I against buying real estate as in investment. Where I see the biggest risk is in combining the two.
When buying a home, are you trying to decide "what do I need to live and be happy?" or "what will make a good investment property that will be easy to rent/appreciate in the future because of trends in the city or neighbourhood?" Likely the former, which is not the basis for a sound investment. Most people have trouble combining both criteria because they often don't align. You will always be sacrificing the business value (future returns) or your personal happiness. To me, that's not a great way to live.
We often just tell ourselves it’s an investment to justify stretching the budget. This isn’t something you would want to do in a true investment, but as soon as it becomes personal and emotional, it’s common. Just treat it like a purchase and you can be honest with yourself.
We usually only hear about how real estate is a great investment from our friends and families, but not about all the times it's not. Just remember, that yes, sometimes it works out. But not always.
What goes up must come down
Real estate does not increase in value in perpetuity. It comes in waves like any other form of investment and is often cyclical. Property as an asset class (in aggregate) may increase over time, but that doesn't mean your house will. Most of us know at least one person who can't sell their house because it's dropped in value and they would lose money relative to their mortgage.
This is important to grasp and a fact most people ignore. I think this view is a generational point of view (I hope) that I know my parents have. Many other investments earn higher returns on average if that’s your goal. However, the one advantage mortgages have is the concept of a forced savings plan, silver lining if you aren't already saving diligently. My hope for most people is they have good savings habits already and don't need this little hack.
The price of your house doesn’t actually matter
What people don’t realize is that for the most part, the housing market doesn’t affect you once you own a property. The price of housing is only a pro or a con if you are entering or exiting the market. Let’s ignore the small detail of property tax, since it’s a minor fluctuation. When prices are high and the value of your house went up, guess what? So did the house you're about to buy next. Even if you sell high, you are going to be buying high too. Now is when you should rent if you’re looking to take advantage of prices. When houses are cheap because prices are low, so is the house you're trying to sell. This is only a benefit for you if you're entering the market.
Where's your money at though?
Have you heard the phrase "Cash poor, house rich"? This is a common scenario first-time homebuyers end up in: they put almost all of their savings into their house leaving them with little free cash. This is bad for opportunities (I wrote about opportunity insurance here) as well as your random, unexpected expenses. My own criteria would probably be to put no more than 10-20% of my savings into a down payment. This means I would have saved a lot before even buying.
PS: There is an interesting spreadsheet here put together by Noah Kagan (tech person) talking about his experience buying and selling a house compared to renting. It gives you a more realistic view of the numbers by someone not necessarily trying to sell you on one method or the other: https://docs.google.com/spreadsheets/d/1ElrnhhTBaqb6B5ovHBFmGXXMkhuqkVm7ThFIn7kYiGI/edit#gid=0x
Thanks for reading!