“Is now the time to buy a house?” As national mortgage interest rates hit +7% and housing prices fall across the country, many people are asking themselves this very question.
But like the stock market, “investing” in a home isn’t a question of timing.
In this post, JL highlights why buying a house is one of the worst investments a person can make. And if you’re still on the fence, check out Brett’s comment in Addendum #9 about mortgages as an investment tool, rising interest rates, and returns.
James Altucher calls homeownership a part of The American Religion, so I know I’m treading dangerous ground here. But before you get out the tar and feathers, let’s do a little thought experiment together.
Imagine over a cup of coffee or a glass of wine we get to talking about investments. Then maybe one of us, let’s say you, says:
“Hey I’ve got an idea. We’re always talking about good investments. What if we came up with the worst possible investment we can construct? What might that look like?”
Well, let’s see now (pulling out our lined yellow pad), let’s make a list. To be really terrible:
- It should be not just an initial, but if we do it right, a relentlessly ongoing drain on the cash reserves of the owner.
- It should be illiquid. We’ll make it something that takes weeks, no – wait – even better, months of time and effort to buy or sell.
- It should be expensive to buy and sell. We’ll add very high transaction costs. Let’s say 5% commissions on the deal, coming and going.
- It should be complex to buy or sell. That way we can ladle on lots of extra fees and reports and documents we can charge for.
- It should generate low returns. Certainly no more than the inflation rate. Maybe a bit less.
- It should be leveraged! Oh, oh this one is great! This is how we’ll get people to swallow those low returns! If the price goes up a little bit, leverage will magnify this and people will convince themselves it’s actually a good investment! Nah, don’t worry about it. Most will never even consider that leverage is also very high risk and could just as easily wipe them out.
- It should be mortgaged! Another beauty of leverage. We can charge interest on the loans. Yep, and with just a little more effort we should easily be able to persuade people who buy this thing to borrow money against it more than once.
- It should be unproductive. While we’re talking about interest, let’s be sure this investment we are creating never pays any. No dividends either, of course.
- It should be immobile. If we can fix it to one geographical spot we can be sure at any given time only a tiny group of potential buyers for it will exist. Sometimes and in some places, none at all!
- It should be subject to the fortunes of one country, one state, one city, one town…No! One neighborhood! Imagine if our investment could somehow tie its owner to the fate of one narrow location. The risk could be enormous! A plant closes. A street gang moves in. A government goes crazy with taxes. An environmental disaster happens nearby. We could have an investment that not only crushes it’s owner’s net worth, but does so even as they are losing their job and income!
- It should be something that locks its owner in one geographical area. That’ll limit their options and keep ’em docile for their employers!
- It should be expensive. Ideally we’ll make it so expensive that it will represent a disproportionate percentage of a person’s net worth. Nothing like squeezing out diversification to increase risk!
- It should be expensive to own, too! Let’s make sure this investment requires an endless parade of repairs and maintenance without which it will crumble into dust.
- It should be fragile and easily damaged by weather, fire, vandalism and the like! Now we can add-on expensive insurance to cover these risks. Making sure, of course, that the bad things that are most likely to happen aren’t actually covered. Don’t worry, we’ll bury that in the fine print or maybe just charge extra for it.
- It should be heavily taxed, too! Let’s get the Feds in on this. If it should go up in value, we’ll go ahead and tax that gain. If it goes down in value should we offer a balancing tax deduction on the loss like with other investments? Nah.
- It should be taxed even more! Let’s not forget our state and local governments. Why wait till this investment is sold? Unlike other investments, let’s tax it each and every year. Oh, and let’s raise those taxes anytime it goes up in value. Lower them when it goes down? Don’t be silly.
- It should be something you can never really own. Since we are going to give the government the power to tax this investment every year, “owning” it will be just like sharecropping. We’ll let them work it, maintain it, pay all the cost associated with it and, as long as they pay their annual rent (oops, I mean taxes) we’ll let ’em stay in it. Unless we decide we want it.
- For that, we’ll make it subject to eminent domain. You know, in case we decide that instead of getting our rent (damn! I mean taxes) we’d rather just take it away from them.
Boy howdy! That’s quite a list! Any investment that ugly would make my skin crawl. In fact, I’m not sure you could rightly call anything with those characteristics an investment at all.
Then, too, the challenge would be to get anybody to buy this turkey. But we can. In fact, I bet we can get them not only to buy but to believe doing so is the fulfillment of a dream, indeed a national birthright! We’ll run the thought experiment on just how we might make that happen in an upcoming post.
For now, in the comments let me know what other characteristics our “worst possible investment” should have that I might have missed. Here are two more from…
- Mr. Risky Start-up: It should increase stress, lead to more divorces, but then be impossible to divide.
- DMDave: You only need one motivated (read: desperate) seller to set the price for the whole neighborhood. Imagine your so-called “investment” suddenly get scuttled when your neighbor decided to sell his particle-board mansion at 20% below assessment.
Oh. Wait. I’m sorry. This was supposed to be about houses.
So a few weeks back I was at an awards banquet and sitting at our table of 10 with me was a woman I know. She began talking about how she was encouraging her young son to buy a house. You know. Stop throwing away money on rent and start building equity.
I suggested that, since her son was single, living alone and without children maybe he didn’t actually need a house. That if he didn’t need one and since they are lousy investments (and here I gave her a few reasons why this is so), maybe he should consider some alternatives instead. Or at least run the numbers first.
This didn’t sit well and it was a short conversation. It ended when she said, “Well, he’d be better off buying a house than a clapped-out Camaro!”
Well, yeah. Maybe so. If this is the only alternative.
Addendum #1: Case Study: Should Josiah buy his parents a house?
Podcast —Why your house is a terrible investment with Radical Personal Finance
Video —Why your house is a terrible investment with Mike & Lauren YouTube.
Addendum #3: removed
Addendum #4: Renters for Life If my post above rubbed your fur the wrong way, this one by Go Curry Cracker will really set your teeth on edge. But he calls me an idiot in this one, How I made 102k in RE, before coming to his senses.
Addendum #5: House prices since 1890
Here’s a real estate investor’s take: Renting is throwing money away…Right?
Addendum #7: Still planning to buy a house? That’s OK. I’ve owned them too. Just go into it with your eyes open. This post will help: Rent v. own, opportunity costs and running the numbers.
Addendum #8: If you think I over state the risks associated with homeownership, here are a couple of cautionary posts from some friends of mine. For the record, they are fans of owning:
What do I do about our new neighbor???
Is it a good idea to own a home at all? The relevant story of Kay and Jay is about halfway down.
And just in case you are thinking about making your house a rental: The Rental from Hell
Addendum #9: Of the many interesting and insightful comments this post has drawn, this might be the most intriguing:
A house is a terrible investment. It is a depreciating asset that gets worn out and needs constant maintenance. People’s tastes change over time, and thus they don’t want the characteristics of older homes… I.E. most people find a 1970′s house hidious unless it has completely been redone… people today want an open floor plan with granite counter tops and stainless steel appliances… I am sure those will be out of style soon and will need to be renovated again.
While the structure never appreciates in value, the land a house sits on can appreciate in value due to changes in supply and demand. Over long time periods homes generally appreciate around 1% higher than inflation.
Now, here is where my post really won’t make a lot of sense. While a house is a terrible investment, I own a house and recommend other people do so as well. Why? Not because the house is a great investment, but because the mortgage is a great way to borrow money due to all the government subsidies. Having a mortgage is a great way to short the US dollar because of the long maturity and low rates you can borrow at. I make sure to constantly take all of the equity out. If there was some way to borrow $400,000 at 3% for 30 years and buy stocks with the money I would much rather do that, but because our society has decided that homes are the “chosen” asset class and distorts the market by redirecting resources into mortgages it makes sense to buy a home. I would never even consider buy a home with my own money, but hey, if the US taxpayer and a bank is dumb enough to loan me several hundred grand a 3% for 30 years and give me a tax deduction sure why the hell not.
I do think a lot of homeowners rode the wave of 30 years of falling interest rates… that dynamic is going to change as rates have not risen in a generation. The returns of housing in the future will be nowhere near what they were in a falling rate environment and a lot of speculators are going to learn that the hard way. Potential homebuyers simply won’t be able to pay anywhere near today’s housing prices if rates were to go to from 3% to a more historical average of 7%. Even at today’s ultra low rates the home ownership rate is declining rapidly.
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