Ross Levin Gains & Losses
Every May, I set out on my tasks of converting our house to summer use. And every May, I have the same vendors on speed dial. I changed our storms to screens and had to call the handyman because one no longer fit. I turned on our outside water and immediately rang the plumber when I saw that one of our indoor pipes was leaking. I didn't have to call the roofer because he was there in April dealing with our ice dams. I realize that I love and dislike our house in different ways at different times.
It's time to look at homeownership to decide how good a deal it is. Here is the conclusion that I will share with you: While there are many great reasons to become a homeowner, it may not be the best financial decision.
We are on our third home. We sold our previous homes for more than we paid and invested in them. We stayed in our first home 10 years, our second one for three and have been in this one for over 10 years. None of them did as well as our other investments.
Why? Our homes have not been investments. They have been places to live, raise a family and be in a community. An investment is something in which you place money, hoping for a return greater than other places you could put your money. A home is a place where you keep putting money, hoping someday that you may be able to get it out. See the difference?
Things get complicated because there are so many variable costs competing with a century of mythology around ownership. The financial argument for homeownership basically comes down to three things: equity buildup as you pay down your mortgage; appreciation as your home grows in value, and tax savings because interest and property taxes may be at least partly deductible to you.
Equity buildup is a great concept, but for many people it has been somewhat elusive. If you are constantly refinancing your home and pulling out money to pay for other things, you may not have much equity buildup. If you move frequently and use a Realtor on your sale (which I generally suggest), you will pay 6 to 7 percent of your equity. So the real equity buildup occurs if you stay in your home for a long time and don't use it as an ATM. But equity buildup must be compared with whether monthly ownership costs are equivalent to monthly rental costs. If renting is less expensive, you could take the money saved and invest it into mutual funds and have your investment account build up.
Home appreciation is wonderful, but it is not guaranteed. A number of people are sitting on homes that have dropped in value and in which they are stuck. If you bought in the right area at the right time, you may be owning a nice asset — as long as you can afford the property taxes and upkeep. But housing hasn't done as well as you may think. From 1989 to 2014, according to the Case-Shiller index, Twin Cities homes have appreciated around 3.17 percent a year. In other words, a $100,000 home purchased in January, 1989 is now worth around $220,000 — keeping pace with inflation. The S&P 500 during that same period was up over 10 percent a year — $100,000 grew to about $1,100,000. I know, you can't live in your stock portfolio, but you get the point.
Taxes are certainly an advantage of homeownership, but the value is dependent upon a number of things — your tax bracket, the total of your itemized deductions and the difference between your cost of rental and the after-tax cost of owning. Some people say that they need to have a mortgage because that is their only tax deduction. But remember, even if you were in a 35 percent state and federal tax bracket, you pay 65 cents on every dollar spent.
And while those three benefits are appealing, they are incomplete. There are other issues making homeownership troubling.
You have ongoing expenses to keep your place running. Some of those are cash costs — a new furnace or screen repairs. Others may be time expenditures — mowing or painting. It's great if that's what you enjoy, but ask yourself this: If this time was freed up, would you still be choosing to use it this way? When you factor in pure costs, depending on the year of your home, they could annually run between 1 to 5 percent of your home's value.
A benefit of a home is community. But this benefit can turn into an anchor if you need to move for work or schools. The financial benefits of homeownership tend to accrue the longer you're in your home. If you are at all transient, you should consider renting.
While your principal and interest costs on a home are relatively stable, you still have ongoing cost creep through taxes, insurance and repairs. These continue even if you own your place free and clear.
The current environment for many people tilts the financial scales toward renting, even though we are in a somewhat tight rental market. Rental housing for every budget continues to be built. If home values grow as modestly as I suspect and rental costs rise, the pendulum may swing back to owning. But for now, if you want flexibility and reasonable costs, renting is a solid choice.
Ross Levin is the founding principal of Accredited Investors Inc. in Edina. His Gains & Losses column appears twice monthly. E-mail ross@accredited.com.
