The Myth of Homeownership

An article in the Sunday Washington Post asks whether -- given the current housing crisis -- real estate or the stock market is the better investment.  Of course, the answer is -- it depends.  Formulating a longer, more sensible answer happens to be something I've been thinking about for the last several months and is the subject of my current research.  I'll discuss this article in two posts.  Here's the first one.

As the title of one of my forthcoming articles suggests ("The Myth of Home Ownership, and Why Home Ownership Is Not Always a Good Thing"), I challenge this country's obsession with Homeownership and the view that attaining homeownership is crucial to achieving the American Dream.  I'll discuss a few points raised in the Post article to explain how I've reached these somewhat heretical views.

The Post article opens by discussing a financial consultant who created spreadsheets to forecast how money he and his wife had saved would perform in diversified stocks or other financial vehicles.  This is quite sensible, and likely is the way many sophisticated investors evaluate an investment.  The current housing crisis suggests that this is not the way most homeowners approach the decision to buy a house.  That is, many people who are losing (or are at risk of losing) their homes accepted exotic loan products they did not understand.  Others are losing homes that they could afford only if housing price appreciation continued, and interest rates remained low.  Obviously, this was an investment strategy that was doomed from the onset.

Many homeowners appear to have bought homes without carefully considering the risks of the investment, without asking whether this particular investment was a rational one for them to make, and without considering the total costs (both actual and opportunity costs) of the investment.  Rather than approaching the purchase from a purely economic point of view, they bought homes because we have all been told that homeownership is the best way to accumulate capital, that homeownership is an integral part of the American Dream, and that, as the article notes, homeownership is "one of the basic tenets of this culture."  People purchase houses because they fear that others will think they are a financial and social failure if they continue to rent, or that there must be something wrong with them if they are adults (especially if they are parents) but still haven't found a way to buy a home. 

The financial consultant in the Post article ultimately decided to purchase a home because of family and social reasons, not monetary reasons.  Again, this is the reason many people buy homes.  Which is ok, as long as they understand that these reasons may cause them to make an unwise financial decision.

Comments

[W. M.]

I fell into this same trap. I bought a home for my family that was older than I was prepared to deal with and cost more than I probably should have paid; all while lacking the mindset of "settling down" and having the "American Dream." The only smart decision I made was taking a fixed rate loan, but even that was too high (6.5% FHA versus the 5.45% that I later discovered was the going rate).

Stepping back and taking the economic view of the situation, I am surrendering the house in bankruptcy as no one will buy it for what I can afford and I can't afford to make the payments and live some semblance of a life with my family. I did the emotionally "correct" thing in the beginning and it cost, so now I'm being hard-line business minded about this property. Maybe I'm contributing to the downfall of the American economy, but it won't matter anyway when I move to Canada in 2 years.....

[Katie Porter]

Mechele raises a great point about understanding the motivation of people who buy homes. When my husband and I were moving to a new state every year for our jobs, we always rented houses. We had several people express surprise that we were ready to have children during that time. They kept saying "But you don't own a house yet! That comes first." As if millions of kids (both in America and around the world) aren't raised in rented houses or apartments each year!!!! The bad news with homeownership first and then kids second is that when they destroy the house, you have to fix it yourself instead of calling the landlord!

[DragonScholar]

I experienced pressure from my family and my wife's family to get a home over the last decade - and declined because I'd been tracking the markets and expenses, and it seemed a home on average was a break-even in the long run.

Financially I had no reason - but the social pressure was quite awkward.

Admittedly now I get a lot of "I told you so's" in.

[Mike Dillon]

On behalf of landlords everywhere I'd like to thank you for publicly voicing that theory, Professor Porter... ;)

[Patches]

I'm seeing allot of what your going thru W.M. I work the other side and it kills me when we have to tell our debtors that they will have to give up their homes despite Bankruptcy. The only condolence I have to offer is that they do not have to burden themselves with the debt. It is not much condolence but all our office can offer sometimes. I have to experience the disappointment, sadness, and anger first hand. That is something that you cannot learn from books, professors, congressmen or Judges. I have learned a ton from this blog and the information flying around here has helped me help make an actual difference for our clients. The most important lessons I have learned though have come from the individuals that I have seen in my office over the years. It is in them that the “rubber hits the road” and you really see how it actually all plays out.

Homes are investments but like all investments purchase price is a big part of your investment. Even if your home is backwards it is an unrealizable loss up until you do sell or surrender your home. I know though that you can be "pickled" into a surrender, foreclosure or short sale as I see it every day. I think one of the reasons we call it the "American Dream" stems from the promise of land when our country first started.

My own ancestors who were of Spanish decent first obtained land here in Texas through Spanish Land Grants. We have an American Heritage passed down from generation to generation of land ownership. Historically land has always been a measure of success not just here in America but world wide. Wars are waged because of it. Families go thru hell to keep it, obtain it and sell it.

Can you be successful, happy and fulfilled without it? I know so! Perception! The masses may be looking though different lenses. This perception may vary by region. In the east and west land is at a premium because of the scarcity. In the West, South and Mid-West land is abundant and cheaper. People here like their space. People in East and West Coasts never had much of it and may think a little differently. Who would not want a little piece of America all for themselves and their descendants? Again it is just a want and not necessarily a need. Perceptions I’m sorry to say may take as long to change as it took to create.

[Jess]

I would really like to see the actual table used and the factors used. Specifically I would like to see how they balanced out the fact that instead of paying rent, which merely gives you shelter, and no return – it is money gone you will never see again – you are paying off a loan and, albeit very slowly at first, increasing your own investment, and the rest is at least (typically) tax deductible. Any comparison should not just look at the value of homes and likely appreciation, but factor in how much money is going where in a rent vs. own situation. To only look at down payment at given percent would be very very flawed, since with owning, you are adding additional funds to that initial sum, additional funds, which if renting would not be adding to the investment.

Frankly looking at home ownership as strictly an investment the same as with stock, is likely not a good idea. There are other factors, for me owning vs. renting means that no landlord has a key to my house – that is something you are not likely to get with renting, and a piece of mind that I highly value. For others it is the benefit of being able to have more freedom to rule their castle as they see fit so to speak than they would as a renter. No these are not strictly economic, but they also should not be dismissed as emotion only. They should be seen as consumer decision, i.e. how much are you willing to pay for something intangible that you want. Just as some may be willing to pay more in rent for a place that gives them certain non-economic advantages, the same can be applied to renting vs. owning, and should not be dismissed frivolous criteria.

I would also like to know if they look at the difference in payments depending on how much they put down. Yes keeping some of their savings for stocks may not be a bad idea, but did they strictly weight this as which gets the better returns, or did they look at how much money they would save each month (as well as how much less interest would be paid) in payments. By putting more money down, and lowering the payments say $100.00. That means you have an extra $100.00 per month that you can invest, or use to improve your financial situation in other ways. Again a valid comparison should look at this as an additional factor.

Taking this further – how much of a factor was raising rental prices taken into account? Prices will fluctuate as they always do, but over all rent will rise – I doubt many people are paying the same rate of rent now as they did five years ago, or will be in five years. With a mortgage, assuming a traditional fix rate loan, your payments are not going to go up. Yes insurance and taxes can, but likely at a rate lower than rental increases and your payment is likely to stay much more consistent. Was this added as a factor? If you stay put you will likely increase your disposable income, which can be used to invest. This was one of the reasons I bought, the consistency and stability. I bought in October, 2005 (no jokes please) at the time I could have rented something similar for less, but today I would likely be paying quite a bit more to be renting a comparable place. And as the years go by, that difference is likely to be more and more and put me in a better and better place. There does come a point where owning, is cheaper then renting, and even if the actual dollars are the same – there is something to be said about the fact that you are least getting something back for your money.

Real estate is a very very complicated place, and yes I will say that it has not been taken seriously enough in recent times, but I still see it as a very good choice. Maybe not the best for all, the example of the rather mobile family is one situation where renting likely is the more logical choice. I will concede that to truly reap the benefits of real estate you do need some discipline – in that the rewards are best achieved by staying put as long as possible and ignoring the Siren song of home equity loans. But it should not be dismissed as a myth, or a bad investment, it should be seen as a choice, that we should encourage people to make with more information than they currently do.

[Unsympathetic]

Don't forget to include the opportunity cost of the differential between rent and the PITI. There's a tax shelter with a home.. yes, but you're spending up to 3x more for the PITI than what you would be spending renting "all that you need" in an apartment instead of "the biggest possible house" that you have a mortgage on. That differential, over $2k/mo for a house with a $3k PITI, has a % dividend which must be factored into the equation if you want to consider "which monetary result is better."

Insurance and taxes on houses go up.. at a rate much HIGHER than rental increases. Remember, both of those numbers are assigned at the whim of gratuitously inane local governmental officials. My rent in 2007 in Baltimore increased by precisely $5 per month to my current rental price in 2008.. for an apartment with over 1000 sq ft.

Jess, renting is never more expensive than buying.. that strawman has no legs.

Also, when considering purchasing a home, realize that if you lose your job, you will be lucky to break even when you are forced to sell as you move out of town.

[FJP]

I think there are multiple economic and non-economic factors that go into this decision for every person/family so there is no one answer as to whether buying or renting is "better".

However, I do tend to lean toward the side of ownership for one simple reason: Properly priced, a rental unit is returning a profit to the landlord. Thus, while one can debate the effective rate of return on home equity, if one rents, the landlord is realizing the investment return on the property, not the tenant. The cost of taxes and insurance on the bricks and sticks is built into the rent so the tenant does not "save" that either. Tenants still need to buy contents insurance although many don't.

Many rental properties, especially single family detached homes, tend to be marginally maintained -- to improve the landlord's bottom line, once again. The tenant either does not have the option of installing a more energy efficient furnace or doing other improvements, or whatever the tenant does belongs to the landlord.

I see this a lot where I live. One can buy a quite presentable 1000-1200 square foot starter bungalow for less than $120,000; to rent the same kind of house you will pay noticeably more for a shabbier property.

Also, in many communities there are many small apartments available but fewer options for larger families -- and if 3-4 bedroom apartments are scarce, or course they also become more costly.

[Jess]

Unsympathetic

Your post is a great example of how different markets have very very different climates.

Though your argument falls apart with your later comments, I don’t care if you are renting or buying there is always a big difference between “all that you need" and "the biggest possible house” There is no reason to assume that just because you are buying, you would be stretching your money as far as you can and to a harmful point. You can certainly buy a place that is in the “all you need” side of things, just like you can rent on the “biggest house possible” side.

Your experiences with rent/taxes are very different from mine apparently. My property tax has actually gone down since purchased, and my insurance has stayed the same within $10.00 or so per year. Granted I am in a condo, so my insurance is largely the same as a rental, and my HOA’s insurance covers the major component. For the record the HOA has gone up about $30.00 so far less than your rental increase. And I assure you if the property taxes and insurance were going up as fast as you seem to think, your rent would reflect that, those costs are reflected in your rent, your landlord does not just eat them.

Also, keep in mind rents go up at the whim of anyone from a giant property management conglomerate that may not have any realistic idea of the local climate, to mom and pop landlords who have little if any real knowledge of real estate, rentals and the laws. As problematic as governments can be, the same lack of thinking can be found in landlords. If you are lucky enough to have a good one, than count your blessings.

When I moved out of my one bedroom apartment I was paying about $190.00 more per month for my one bedroom than my mortgage payment became on my two bedroom unit. Though I will concede when you factor in the HOA as well as the mortgage it was about $30.00 more, but the HOA payment actually covered things that were not coved with my rent. I recently found a one bedroom in my same complex that was asking for rent that was more than my HOA and mortgage combined. (though I will concede that I suspect he was over priced, but still it gives you and idea since my unit would obviously rent more being a much larger two bedroom) So I hate to break it to you, but your theory of buying “never” being less than renting is completely false.

Not to mention flat out silly when you consider that some of us do indeed stay put in purchased property for many many years. No, you may not see the rewards immediately, but you will almost certainly in 10 years if you stay put. If you stay put for the full 30, I don’t see how anyone could argue no mortgage is more than any rent. I know staying put is a hard concept for some people to grasp, but for some of us, I assure you we want to stay put.

No my place is not a paradise, but it has enough room for my needs, I love the lay out and the location, and it was a reasonable, and appropriate for my situation, price. I am happy there and happier than I would be renting.

And for the record loosing your job does not automatically mean you lose your home – you do know you can be evicted right? And why do you assume you have to “leave town”? That argument just doesn’t make sense.

Since you decided to bring it up, my partner and I both worked in bankruptcy at the time I bought, did you catch that I bought my place in October of 2005? We both lost our jobs after the law changed and work dried up, and no I did not loose my home, nor was I late on a single payment to any bill, nor did I max our my credit cards!

All circumstances are different, but when it comes to rent vs buy there are many more factors than “what rate of return do I get on my down payment vs a different investment option” and bottom line numbers – sometimes where the money goes really does affect how you should view how much goes out.

[Patches]

jess,

My wife and I both work bankruptcies as well, in the same firm. I had never heard of another husband and wife team before. We were able to work thru the new law though. It was hard for a while, but we are super busy now. She works 7s' and I work litigation in 13s and 7s. It was the litigation side that kept the firm floating in the interim. Stay and discharge violations are like a dime a dozen. You can almost close your eyes and pick a case and there would be one to several prosecutable violations. Auditing older chapter 13 cases for additional attorneys’ fees helped a great deal as well. You always do more work than you first applied for. So when the case gets old enough you audit for things like Relief from Stays, Claim Objections (post-bar-date) and the like. Bar the unsecured creditors who have not filed POC’s and make your application. The only down side is that you usually find that you have done more work than you can apply for without making the plan deficient. Of course the firm eats it, but if it is a volume firm you should be able to squeeze something out. Record keeping is key though.

I like your take on things...

[AMC]

http://www.newsweek.com/id/149008

JUDGMENT CALLSRobert J. SamuelsonThe Homeownership Obsession
As a society, we overinvest in real estate. We build (and buy) too many extra-big homes and strive to make almost everyone into a buyer.

Published Jul 26, 2008
From the magazine issue dated Aug 4, 2008

The real lessons of the housing crisis have gotten lost. It's portrayed as the financial system run amok; the housing market became a casino. The remedy is to enact rules that prevent a repetition. All this is partly true. But it ignores a larger and more important truth: our infatuation with homeownership, embedded in dozens of government policies, has turned housing—once a justifiable symbol of the American Dream—into something of a National Nightmare.

As a society, we're overinvesting in real estate. We build (and buy) too many extra-large homes. McMansions, if you will. They use too much energy, and their carrying costs, including mortgage payments, absorb too much of Americans' incomes, limiting the ability to save for retirement and other needs. We think everyone should become a homeowner, when many families can't or shouldn't. The result is to encourage lending to weak borrowers who are likely to default. The avid pursuit of a few more percentage points on the homeownership rate (it rose from 64 percent of households in 1994 to 69 percent in 2005) has condoned enormously damaging policies.