Contrary to what investment strategist Jared Dillian wrote in a Nov. 10 commentary reprinted from Bloomberg View (“Home ownership doesn’t merit tax advantages”), debt can be a good thing.
Why? Because while Dillian thinks that paying interest is not a good thing, if you think about it just a little bit, interest is just rent on money.
If you rent a house, a landlord gives you the use of that house in exchange for monthly payments (i.e., rent), and eventually you return the house to the landlord. If you borrow money, a banker gives you the use of the money you borrowed in exchange for a monthly payment (i.e., interest), and eventually you return the money you borrowed to the banker.
A primary residence is a lot more than just an investment. Given the choice between renting a place to live or renting the money to buy a place to live, buying is always better. The key is to buy a house for which the monthly house payment is about the same as what you would pay to rent a house. There are many advantages. The first is that after 30 years of renting, you own nothing; but if you paid interest instead of rent, you now own a house. Second, in an economy experiencing even moderate inflation, rent payments keep increasing over the years, but house payments don’t. In fact, since income also rises with inflation, you are paying the house payment with cheaper and cheaper dollars as time passes.
Also, viewed as an investment, a house is an extremely good one because the initial investment is just the down payment, but after 30 years, the value is the whole house.
For example, assuming 2.4 percent annual inflation, the value of the house will double in 30 years. (See the “rule of 72” for doubling time on compound interest.) Now, if you bought a house for $100,000 and paid $10,000 down, then you have multiplied your investment by a factor of 20 over 30 years, and the payments you made along the way would have been made anyway had you been renting. That amounts to an annual return on your investment of about 7.5 percent.
Finally, a neighborhood of homeowners is more stable than a neighborhood of renters, which is ample reason for the government to encourage homeownership. The reason for the housing crash of 2008 was that a lot of unscrupulous bankers were giving loans that were larger than the borrower could handle, and they were writing variable-rate loans, which enabled them to drive new homeowners out of their homes by massively increasing the payments. The analysis above assumes a fixed-rate mortgage, so there is no uncertainty in the payment.
Dillian’s other arguments against homeownership are of secondary concern. For example, maintenance costs can (and should) be considered along with the house payment when deciding how much one can afford to pay monthly for a house. And if you still think a house is a “crappy” investment, take a look at the homes on Summit Avenue in St. Paul or on the shores of Lake Minnetonka and ask yourself how old many of those houses are, what they were worth when they were new, and what they are worth now.
David M. Perlman lives in New Hope.