When I first considered buying a house, my entire family got involved. I have the luck of being related to real estate agents, investors and other experts that are more than happy to give advice about buying a property — even before you ask.
The first thing they asked me was exactly how long I expected to stay in the house. Most people don’t know these sorts of things for sure, but we wanted to make sure that I’d own the house for at least five years.
The Upgrade Cycle
It definitely varies by geographic area — if not by specific neighborhood — but a lot of folks in my area will buy a townhouse or condo as their starter home. After about three years, they’ll start looking for a bigger place to upgrade to, either a bigger townhouse or a single family home. Depending on the family, that upgrade cycle can go through a couple of times as people work their way up to a house that they are happy with and is big enough for their family.
The thought seems to be that if you’re making a little more money every year, by three years out you’ll be in a position to afford a bigger house. And everyone knows assumes that buying is more cost-effective than renting — as long as you’re paying down the principal on your mortgage, you’re going to come out ahead.
But with an upgrade cycle of about three years, there’s a good chance that you will lose money.
The Five Year Rule
When you purchase a house, the general rule is that you want to be sure to be in the same location for at least five years. Otherwise, financially, you’re probably going to take a hit.
The first hit is your closing costs. Every time you go through closing — buying and selling — money hits the table. Depending on where your house happens to be, the buyers and sellers pay different amounts, but everyone pays something. We can easily be talking about thousands of dollars and limiting how often you have to pay out that kind of money is always a good idea.
But you take a second hit when you look at your mortgage statement to see exactly where those monthly checks you send in are going. The way mortgages are structured, you pay much more interest in the first few years that you own a house. Usually, it isn’t until you’re about five years into paying down that mortgage that you’ve made enough progress on the principal that the math actually works out that you’ve gotten a better deal than paying that monthly check to a landlord.
David’s Note: When you take out a mortgage, you are paying an interest rate on what you owe. So, in the first year, when the principal is highest, the interests you need to pay is the highest as well. However, since the monthly payment is the same through the loan (at least with a fixed rate mortgage anyway), more of the payment will be used to cover the interests payments, and therefore less goes towards the principal. As your principle goes down, your interests payments will go down, leaving more of your check to go towards the principal.
If you can wait at least five years to move, you’re in a better position to be ahead of the game.
Defeating the Five Year Rule
Five years is a generality. If you add in a couple of other factors, you can make buying a house that you don’t plan to stay in long-term a better choice.
The biggest factor is how much you’re going to pay on your mortgage. A lot of people buy as much house as they can afford, according to what lenders offer them. That’s usually the upper end of what you can financially manage. If, however, you buy at the lower end of what you can afford and make extra payments, you can pay off a bigger chunk of the principal. You need to run the numbers for the specific house you’ve got your eye on, but you can often come out ahead.
You may also consider buying a house that you won’t stay in for five years — but that you also won’t turn around and sell. It’s not out of question to purchase a home, start paying it down and fixing it up so that you can turn around and rent it out. You do need to be careful that you’re choosing a house that you can afford even if you don’t have a renter, on top of a mortgage for your next home. There are plenty of other arrangements that can work out similarly, but you need to study up on real estate before making such a choice.
[Click here for a discussion on whether you should buy an investment property]
But if you’re buying just on the basis of what the bank says that you can afford and you don’t want to think about it, stay in the rentals until you’re ready to spend at least five years in the same home.
David’s Note: Here is a quick and dirty formula that you can use to help you figure out whether it’s better to buy or sell that works with any duration of ownership. Try to determine the answer to: Seller and Buyer Agent Fees When You Sell + Purchase Price + Maintenance Cost for the Time of Occupancy + Interest Paid on Mortgage + Investment Gains from Your Down Payment + Taxes Paid Such as Property Tax + Closing Costs – Selling Price. This number could come out negative or positive, but if it’s lower than the rents you would have paid during the same time frame, then you would be better off buying. If the number is higher, meaning that the selling price wasn’t high enough to cover all those costs, then renting would be the more cost effective choice.
Of course, the big question mark is your selling price, which you sort of have to estimate. Also, note the obvious that the higher the selling price, the more buying makes sense. The five year rule is actually pretty arbitrary, but if you assume that the long term trend of real estate is up, do you see why buying makes sense the longer you stay in the home?
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{ 127 comments… read them below or add one }
Timely advice, thank you.
The five year rule may have been OK before we got into the real estate mess. Untyil that happend, houses appreciatd year over year and buying a Condo or Town house for a few years and then sell it for a profit worked. Not today. Prices for single family homes in moste regions are still falling and will continue to fall becasue houses are still way over priced. Places like Washington DC are exceptions as long as the Gov hires. WHen the Gov starts laying off people, that area too will fall. Buying a house at a time when home prices are falling is insane because we are in finacial mess like never before. You cannot apply rules now which worked before Wall Street and Banks screwed the American citicens. What if Oncle Sam defaults on its debt? What if interest rates go up to double digits again, can you still pay the mortgage. About 1/3 of housing mortgages are greater than the value of the house they cover. What if more and more people just walk away from the mortgage. This is a new trend, walk and don’t look back. Americans buy homes as an investment but now, a house or real estate is no longer a good place to invest. May be in 25 years ? no body knows and that is the truth. The best advice right now is rent a place until the USA is back on its feet again.
Actually rents are increasing more rapidly now in many markets. and the difference between rent rates and a mortgage payment including tax and insurance is getting smaller and smaller. economics states as demand for renting increases, so will prices to rent. homes are becoming more and more expensive to build in the future due to lack of available land near city centers and cost of materials increasing. the bubble popped on housing, prices are correct now.
no, houses are still too expensive, and with foreclosures on the rise this winter all homeowners will feel that pain. If they are waiting for higher prices they will need to wait 18 months at least. By then, whats the point of waiting? I would recommend that people deal with the reality that a house is not really an investment, rather, its a place to live. I have rented the same place for 10+ years and pay $500 a month, never more. The landlord loves me and never wants me to leave. I have over 200k in cash now saved up, when I get to 250k I’m going to buy a foreclosure for cash. That way I won’t have to pay 1 penny of interest, what a waste of cash… interest. I should have 250k in about 13 months if all goes as planned, I’m thinking I will be able to buy a foreclosure for about 150k tops in a decent Denver neighborhood. Banks luv the cash if they can get it for a property thats underwater/nonpayment for 12+ months…
Really PZ?
So over the past 10 years, you’ve given your landlord $60,000 in rent. You’re going to pay another $6,500 in rent while you make your next $50k in savings. And then you’re out and off to buy that house scott free, no interest. Of course, if you bought it today, took a $50,000 loan at 4.50% interest, and you paid it off in a year (which you claim to be in the financial state to do), you’d pay, what, less than $1,500 in interest. So if we call rent, lost money, and we also call interest, lost money, you’re paying your landlord, what, $5,000 extra to avoid ever paying a bank a dime of interest. Am I missing something here.
A mortgage is a contract and definitely an investment. Your home is in fact a commodity like wheat, soybeans, oil ,etc. Just nobody looks at it that way. Purchase a home for the long haul, maintain it, be responsible and it’s all good.
ReallyPZ are you envious of PZ because he has savings and didn’t buy a $300,000 home and watch it decrease in value to $150,000 and today… owe $500,000 because he used it as an ATM like millions of other?
Each State has its own rules regarding ” Walk and Dont Look Back”
For example. …….california uses the House as the Collateral Damage and will not go after the Buyer. Florida uses the buyers Buttocks and will forever haunt you for at least 20 years garnishing wages and court trials to get their money. Remember, Defaulting puts the House in a auction. Whatever the auction price does not cover the Buyer will be responsible for. My advise to Walkers and Dont Look Backers is this : If you live in a state that uses your buttocks to get the money from a default,,,,,,,NEVER gather assets again. Everytime you deposit money in a bank account, apply for credit this Shows You have means to repay the auction difference from what the Loan amount was and the auction price the home sold for. YOU OWE the Difference. No wonder California Home Buyers were able to Walk away so easy and not Floridians…….Remember is was all about LOCATION LOCATION LOCATION…..that’s what they meant.
You do realize someone is covering the cost of the defaulted “walk away” mortgages. In place of the homeowner, it is the taxpayers of California who are currently grappling with a annual budget deficit over $25 billion.
The USA will probably not get back on its feet again, at least in our lifetime. So I think people should go on living, including buying and selling homes, in spite of it all.
If you have the means. Of course eating cake while you buy and sell is always a pleasurable thing to do.
Unfortunately, I agree. This country in many places, especially cities like Philadelphia PA and Detroit MI, have a lower quality of life than many third world countries do. The only problem is that most people might never be able to own a house if they don’t already the way it is. As for DC, that city literally has a 1/4 of its population as literally homeless and 1/2 living with somebody but still basically homeless.
Lightgoldenlady
You evidently have never been to a real 3rd world country–your comparison is quite ridiculous!!!!
We’ve lived in other countries. The majority of the people in El Salvador live in stick huts with mud packed in the cracks, no running water, and the toilet is a hole in the ground. In Brazil it is in a slums that are miles long with millions of people crowded together with house constructed of cardboard and corrugated tin. In Turkmenistan, they live on $100 a month, that’s if they have a man as head of the household, if you are a woman with family support you’re trash. Taiwan has people piled on top of each other, with the handicap members of the family placed on a piece of cardboard, along the sidewalks, near the markets, begging for money or food. Don’t try to make a statement of how bad the people in Detroit or PA have it until you have seen the “REAL” world. Many people around the world talk about how they wish they could come here to the USA, because to them it would be paradise compared to how and where they live now.
I’ll take inner city Detroit, MI or Newark, NJ or Compton (LA) over the slums in India, China, Indonesia, Liberia, Somalia, etc.
Really, really, it’s all about the bank and wall street fault???!! What about the dumb consumer that make $30,000 a yer and bought a house for $300,000 on interest only, reverse amortization, blah blah prgram that Freddie or Fannie backed. So now because of lack of credit standards both the consumer and the lender looses.. This is the free market and lack of responsibility does.
You can lead the horse to water, but cannot make him drink. Or they all drank it in this case.
right on RM. Sure there are greedy bankers and business owners, there are greedy people in every walk of life. People who bought a house they could afford, did a 15 yr mortgage or paid extra toward principle are in ok not underwater. They used their brains not their greedy heart.
There are jobs out there, or start your own line of work. Only a generation or 2 ago you heard stories of a man working 2 or 3 jobs to support his family. No complaining or blaming. Not anymore, the American man is entitled to it no matter what.
Obama is the figurehead of the modern man – blame everyone else. 3 years in and everything is worse, but he takes no responsibility. Most powerful man in the world and he blames republicans, tea party, banks, businesses, et al. Wall Street sit-in is the same thing, bunch of crybabies. Don’t buy their products, don’t invest in them, don’t save or borrow with them. Start or find businesses and banks that do it the way you want and go to them. Like Solyndra for example.
(Have you heard all the anti-semetic comments coming from this crowd? wow).
Not true. I bought for $300K in 2006, put $60k down, made all payments on time, and I even paid an extra $20 k on the principle. My rate is 6.5%. My house is now worth $125k, if I’m lucky. I now owe $209K. So where was my stupid mistake and overstepping my means?
Your stupid mistake was when you bought a house that was overinflated by over 100% of its actual value and didn’t see the writing on the wall that housing prices can’t keep increasing 10% a year indefinitely.
You have no clue. Wall Street stole from us through our 401k plans. No one got in trouble. The republicans are the ones that hel this country hostage to the banks. It was Democrats that saved the auto industry. It was republicans that said lets default on the nations debt. Smooth move exlax. That would have been catastrophic. We lost 800,000 jobs the month Bush left office. We are currently in the 23rd month of economic growth. Newt is a filanderererer. Romney is a bafoon who claims to pay 40% taxes. Tithes are not taxes. Democrats ended the war in Iraq. Democratic President killed Osama B who was a menace of the Mideast for the past 20 years is dead. Democrats believe in a tax system that has each pay his percentage of taxes and not hiding it in Swiss Banks or Turks and Caicos islands. It is easy to pick on the downtrodden. You must be very comfy in your personal life, because it sounds like you are a member of the lucky sperm club.
@Michael Henson I also bought in 2006. I paid $0 down and have a 5.5% rate. I paid $90,000 and my home is now worth $125,000 because I did research and didn’t buy an overpriced McMansion.
The only issue here is that you have an expectation that your house should be worth much more that the note and growing. Continue to make your mortgage payment and the appraised value will rebound.
“When I first considered buying a house, my entire family got involved.”
Unfortunately I started the same way and ended up regretting it. I was gently pressured into buying my uncle’s house it was a “good deal” and a “smart investment” even though it was out in the suburbs (I’m a city guy by nature).
After about 3 years I broke up with the girl I bought it with (bad bad bad idea to buy a house with somebody you’re not married to) and then held onto the house for probably another 3 if I recall correctly. Luckily I sold it right at the end of ’08 before the market crash and I made a little money, so the five year rule (it was closer to 6 for me) isn’t a bad guideline, if I would have got out sooner I probably would have lost money.
It can be a very bad idea to buy a house even with someone who happens to be your legal spouse. If you’d married your girlfriend, maybe you would have stayed together to honor the piece of paper, but maybe not. If you’d divorced rather than merely “broke up,” you still would have had to figure out who was taking responsibility for the house.
Good Information. My real estate agent recommends a 7 year turn-around minimum. We’ll be moving next year, after being in this house for 4. The landlord option is the best choice for us, I believe.
How are you defining the 5-year rule? Are you saying that if I were to buy a house now, and sell it 4 years and 11 months later, I probably shouldn’t because for what I’d lose in closing costs both now and then, I might as well rent?
The average 30-year fixed mortgage goes for around 4.55% right now. So after 5 years, you’d have paid down about 9.8% of your principal. (Obviously, the higher the interest rate, the less of the principal you’ll have paid off after 5 years: that principal balance would dwindle to less than 7% should interest rates rise to 6%.)
I like where you’re going here, I think. I’m just not sure I understand it.
If the real estate trend goes up over time, buying will become more favorable the longer you hold the properly because rents generally go up every year.
However, as you can see from the formula I outlined, you are basically guessing at the selling price to come up with a decision. What the 5 year rule is essentially saying is that if you won’t even live in your home for at least that amount of time, you shouldn’t be even thinking about buying because it will be extremely difficult to recover all that costs associated with a home purchase.
I can see what you’re getting at regarding renting, and I assume you’re a landlord yourself. As a former renter I was seeing a lot of people following this trend, and so did my apartment complex. They continued to increase the rent annually until I was paying as much for a tiny 1 bdrm apt as I do now for a mortgage on a 4bdrm house on an acre. My quality of life has increased and my monthly payment is the same.
Landlords are well aware of the falling prices and people’s tendency to want to rent until we hit bottom. In the meantime renters are paying more because no matter how much landlords raise the rent people are anxious to pay it because of their fear of buying a sinking investment. Your formula used to work, but we live in a different world today. Generally I try to zig when everyone else is zagging.
There may be some that do this but many landlords don’t raise rents simply because they think they can get away with it. Everyone wants to make more money naturally, but rents are “in general” dictated by supply and demand.
It’s great that you are able to buy a property and at the same time not pay more. For some, this low interest rate environment is really a blessing.
Hey, don’t hope to make money on real estate big time. I think people should buy a house they can well afford and pay down the house in no more than 5 yrs…if you have the money and need to have a place to live, buy now stay as long as possible and sell it when you don’t need it any more. you might beat the inflation.
But there are eople who bought houses for $600,000 and 5 years later they are worth $300,000 . I dont think they would agree with the 5 year rule. If you sell for more, it’s dumb luck.
Those people were duped the houses were never worth what they paid for them. Buy a house you can payoff in five years.
It seems like this doesn’t take into account the tax savings you get while you’re paying that mortgage interest.
i agree. PEOPLE need to understand, they can deduct the INterest on the Mortgage or Home as long as they have lived in the Home 3 out of the “last” 5 years. This is where the 5 year rule applies.
You are confusing the rule. the 3/5 rule is meant to establish primary residence only. It is not true that you have to wait three years (and thus be at three out of five) when it comes to deducting interest payments on taxes.
The fact is for most consumers a mortgage is their biggest tax shelter. It is also a form of equity (well, normally).
I am not saying it is a bad thing to be in a house 5 years, but if you are looking at the financial side of moving or deciding between renting and buying, the tax shelter is a HUGE factor.
Not everybody qualifies for the mortgage interest tax deduction depending on the amount of money they make, and if your mortgage is not that big you might be better off taking standard deductions. In fact I think this deduction is a bunch of crap because you are basically getting what, 25% of the interest back? Why even pay interest, just save your money and rent until you can pay cash or save enough to put down a nice deposit on the house, like 30 or 40 %. JMO, everyone is different but I think the tax deduction is a farce.
Well I itemized and get not only the interest rate deduction but also the local property tax deducted and that effectively almost doubles the deduction at my current tax table rate. I actually keep a small mortgage which I could pay off but have found that I can invest the cash it in municipal bonds (no taxes) and collect almost 6% interest tax free.
“…the higher the interest rate, the less of the principal you’ll have paid off after 5 years…”
I bought my house in 2007 at a 6.5% rate (my house costs $325,000). I have gotten offers for Wells Fargo’s “3-step refinance program” where they would offer a lower rate with no closing costs involved (obviously the rate won’t be as low as what’s in the market but I guess that’s how Wells Fargo makes their money).
I haven’t taken the offer because I’m too chicken to refinance. But in reading your posts, I am having doubts. I don’ understand too much about these things – am I a fool for not taking advantage of the no closing cost offer and getting a lower rate??
Lizzie -
When something sounds too good to be true, it usually is. You must check out the full terms of the offer and determine whether the end cost is worth it. In most refinances, there are costs associated with the transaction – the old loan must be paid-off and the old mortgage released (a cost), the new loan usually has fees and costs (recording the new mortgage, at least, and, most often, application fees, underwriting fees, etc., which may amount to nthousands of dollars). Of course, at a lower interest rate, your monthly payment on the same amount of loan (be sure that new fees and costs aren’t rolled into your new loan) will be lower. Your monthly savings in the reduced payment divided into your costs in getting the new loan will tell you how long it will take you to break even and then begin to save over your existing loan. For example, if your cost of the new loan (fees, etc.) is $5,000 and your new monthly payment is $100/mo. less than your current payment, it will take you 50 months to recover the cost of getting the new loan and then begin saving over the old loan. Also, don’t forget to check out the total amount that you will pay over the entire term (length) of the loan and compare that to what you will pay over the remaining term of your existing loan. If you have a 30-year loan now and have been paying on it for ten years, the amortization schedule that you got when you took out the loan will tell you what your total remaining cost of payments will be – an new amortization schedule on your prospective new loan will tell you teh total cost of the payments on that loan. BE CAREFUL AND ALERT!
> In most refinances, there are costs associated with the transaction
> if your cost of the new loan (fees, etc.) is $5,000
You’re not reading what he wrote. Wells Fargo is offering him a $0 cost refinance with no fees, points, etc. (They did it for me twice.) That said, he’s right in thinking that he could probably get a lower interest rate by refinancing with another lender. (WF isn’t being nice – they’re making the offer because they’re pretty sure that he could do better.) However, refinancing with another lender requires far more work than the WF deal requires. If he is going to do that work, great. If he’s not, the WF offer is better than doing nothing.
> Also, don’t forget to check out the total amount that you will pay over the entire term (length) of the loan and compare that to what you will pay over the remaining term of your existing loan.
You’re assuming that he’s going to pay on a 30 year schedule but he probably shouldn’t.
If he’s got 20 years left on his current loan, he can pay his new 30 year loan on a 20 year schedule and pay less each month than he’s paying now (because the interest rate is lower), saving significant money. (If he continues to pay what he’s paying now, he’ll be done with the new loan in a lot less than 20 years and save even more.) Since the 20 year plan has higher payments than the minimum for his new 30 year mortgage, he’ll also have the flexibility to drop to the latter if he needs to. (This flexibility is one reason to prefer a 30 year loan over a 20 year loan even if you plan to pay in 20 years.)
Lizzie, it kinda depends on what your goal is. Since you’ve been in your house for at least 4 years, your monthly payment is paying a bigger chunk of principal along with interest. When you refi, your loan resets and you start the cycle of paying more interest to principal again though hopefully at a lower overall payment which saves you money.
If you plan to live in your home long enough to make back the closing costs (there will be something either out of pocket or rolled back into the refi even i those no closing cost offers) then it probably makes sense to refi. If you plan to sell within a year or two, it might make more sense to not refi and instead make bigger payments to bring down that principal so that you have more flexibility with your selling price.
Disclaimer: Your Mileage May Vary.
I used to work for Wells – The three step program is the best program I have ever seen. If you can get less term with less payment – it is a no brainer because there are no costs added to your balance. A typical refinance has some closing costs that are rolled into the loan – the three step does not. It also does not require an appraisal, income and assets documentation (in most cases), and the paper work is sent to your home. Once again if you can borrow the same amount of money with less payment for less time – jump on the three step.
I took the deal from Wells Fargo. All was done over the phone and in the mail. Very easy and I got a lower interest rate. No closing costs either. Not sure why you would not take the deal.
I too did the 3 step refinance. It is not a scam, it is the best deal you will find anywhere. I did it 3 years ago and it was very easy, I even had a 2nd mortgage with another company. I tried to do it again recently, and since the last time they have tightened their policy, you can’t have a 2nd mortgage with another lender anymore to qualify.
Lizzie, You are likely being duped by Wells Fargo. I have reviewed a number
of these loan offers from WF for clients and they continue to be abusive. WF implies that they are doing this out of the kindness of their hearts, but look at the last couple of pages of the loan offer. It is very cleverly hidden between the lines that you will actually be paying nearly 10% of your mortgage balance in closing costs. It is not that you avoid paying refi costs, it is that you don’t have to pay them “out of pocket”. They merely add the costs to your mortgage balance, but don’t disclose that fact until you are fully enrolled in the mortgage. Beware. Employ critical thinking….when did WF ever do anything for you and why WOULD they offer to lower rates without a direct payoff to their bottom line?
They wouldn’t. They calculate that you will be more likely to do business with your existing lender and will be lulled into believing that they are being good guys.
> They merely add the costs to your mortgage balance, but don’t disclose that fact until you are fully enrolled in the mortgage.
As I wrote above, I’ve done two of these with Wells Fargo. They didn’t add anything to my mortgage balance. (I’m an obsessive type who tracks this stuff in quicken each month.)
The interest rate that they offered was higher than I saw advertised at that time, so I’m willing to assume that I could have gotten a better interest rate, but that would have required more work.
The 5-year rule is relevant only in markets where properties appreciate at a modest, predictable rate. Article needs more focus on impact of appreciation or depreciation, not so much on mortgage principal and closing costs.
Dear Lizzie, all other things being equal, yes.
Kathy,
Can you please explain?? I was under the impression that generally, although so many people do it especially nowadays, refinancing is a “bad thing”. Would I take a hit on my taxes because of it? Will it have a negative impact when I choose to sell, if ever!, my house?
I am lying if I say that paying at 6.5% hasn’t been a struggle and the offers have not been tempting but like I said before, I really don’t want this to affect me and my family in a negative way in the future.
Check out this image http://thismatter.com/money/real-estate/images/mortgage-payments-interest-principal-portions.gif
It basically shows the portions of each payment that go to interest and principal.
Esp with a “No cost” refinance, you should definitely refinance. That said, 3 step sounds like there are 2 other steps that might be a bit costly.
You might want to take into account the millions of people like us who bought are little starter home back in 2006 (just to get in the market– advice was to get in and build equity to sell for a bigger home). We didn’t buy at the top of what we were told we could afford, and we chose a 30 year fixed mortgage, not being persuaded into an adjustable rate. Now, two kids later, 5 years later, our house is worth $100,000+ less than what we paid, we have way outgrown this starter home. With 2 stable incomes, we aren’t approved to do a short sale and just have to live with the situation. With forecasts that the bottom hasn’t yet hit and might not for a few more years, you might want to adjust this advice to say it’s a 10+ year rule.
I agree with houseregrets. We bought a modest starter home in early 2006, snagging a 3 bedroom, 1500 square foot Cape in a quiet neighborhood. Rather than doing stupid things with balloon or interest-only junk loans or maximizing our borrowing power, we calculated a comfortable payment and worked backwards to figure out our max house price. We have a 30 year fixed rate loan and got a wonderful rate. The assumption we made was that we would likely sell and move up to a bigger/better house in 5-7 years.
5 years later, comps in our town have nosedived in value. If we had to sell today, we would be lucky to get what we owe on the house (and it would take 6-12 months to sell, assuming it did). After realtors’ commissions and closing costs we’d walk away owing money. So paying our mortgage faithfully and on time for 5.5 years has gotten us zero equity, and in fact we have essentially “lost” the tens of thousands of dollars we put down on the house and have invested into improvements.
Part of me wishes we hadn’t been smart – that we had maxed out our borrowing power with the fixed-rate loan. At least then we would have had a bigger house better-suited to a growing family (we had a baby a year ago). With two good, stable incomes we could afford a much bigger and nicer house for a bit more than we paid for this place but we just can’t afford to sell, and even if we could we’d have no equity to show for it in order to buy the next house. We decided that we’re just going to keep fixing up the house and making upgrades/improvements that make us happy, in the hopes of at least enjoying our home. A house to us is merely a place to live; anyone viewing it as an investment these days is insane. Why make extra payments to the principal of the loan when values keep dropping – it’s not really going to get us a damned thing in terms of equity?
Thanks to the big banks and to all the irresponsible borrowers for screwing over those of us who were careful and smart. There’s all sorts of help for people and entities who were stupid and meanwhile a lot of homeowners in our shoes are still paying for the mistakes of others and will continue to do so for a long time to come.
I can’t agree with your statement more. I purchased a townhouse in 2006 and it’s dropped almost 50% in value. Paying extra on the principle is a worthless idea. But, I can still afford to make my house payment. So here I sit, with a ridiculous amount of negative equity while other people who overstretched their credit are getting foreclosed on. Bad lenders, horrible borrowers, people flipping ridiculous houses, and greedy builders all ruined the housing market and now the little guy is the one paying the price.
We are an older couple who purchased our first “starter” home in 1982 on a 25 year mortgage when interest rates were 18.5%. Housing prices were ridiculously high on top of the insane interest rates. Desperate to get into the market and grab anything, we purchased the best we could afford at the time, and immediately lost 25% of the value of the property within 6 months of buying due to a housing crash. Even our real estate agent advised us to walk away and let the bank take the house.
Since walking went totally against our principles, we decided that the only ways we were going to win was was to pay it off as quickly as we could. We made a concerted effort to pay off the house. We made a chart on the wall and the whole family got involved with finding ways to find extra money to pay off the house. We sacrificed a lot, no doubt about that (we even made a wish box that everyone wrote down their burning desires for once we got the house paid off) and found creative ways to entertain ourselves that didn’t involve spending money. It took us 6 years almost exactly, and we had paid twice the original purchase price in that time. (If we’d stuck with our original 25 year mortgage, we’d have paid 4X the original purchase price).
Once the house was paid for, we spent some money getting it fixed up to sell and once we’d added some things like a deck that made the house more attractive to us, we were reluctant to get back into another oppressive mortgage so we stayed.
30 years later, we are still in our starter house and it is worth 5X our purchase price. Getting out from under a mortgage early in our lives gave us financial freedom and options that other families didn’t have. We have since purchased 2 more revenue properties and we contribute the maximum allowable to our registered retirement fund.
The best thing that ever happened to us was for the housing market to crash, because that started a mindset that we have practised the rest of our lives. We never carry a balance on our credit cards and because debt of any kind makes us nervous, we make spending decisions that keeps us out of debt which means for one thing, we rarely buy new. Paying down the principal as quickly as you can is the ONLY worthwhile idea, as it gives you back the money you would have otherwise paid in interest.
As with anything you own, the price that its worth is only what you will get on the day you sell it.
This is a great story, thanks for sharing! I agree with your principals as well, always pay down debt ASAP, you will be happy and sleep every night without issue. I have not bought yet but with the cash I have saved up because I never went into debt I do plan to buy, once I decide where I’d like to live, and pay in cash.
My wife and I bought our house 10 years ago, we didn’t spend more than we could pay, and after 5 yrs. took a second to do some up-grades and build a pole building on the property for me to start my business..However now we are both on disability, with a limited income of less than 50% of what we had been making.. This is through no fault of our own, by the way.. Our home is worth far less than we owe on it, and with our income loss, we can’t go any place else.. Thanks to the failed housing market, we don’t have investment growth, and no longer have a positive cash flow.. We can’t run, or walk away, and we can’t afford rent, so how did we screw up.? I don’t see this as our fault.! And for the record, we have never been late, nor have we ever missed or skiped a payment, and our lender will NOT give us a re-fi because we lost so much of our income… So where is our “Bail-Out”.??
Your story really resonates with us. We’ve been buying and selling residential real estate for forty years through numerous economic cycles. We grew up in Texas where the oil bust meltdown in the 70′s crashed home prices even as interest rates were at times double digits. We always bought within our means and tried to make extra payments on principal. Though we didn’t make any money on our real estate the first twenty years, we always enjoyed our homes and sold them easily as we bought well and maintained and improved them. Since the early 90′s we’ve been buying in beautiful areas out West in Arizona and Lake Tahoe. We made big money in residential real estate until 2006 and own two homes, not large but both on the water (always good to mitigate downswings and increase appreciation.) We had mortgages but paid them off as soon as possible. Since 2006 the declines in value have probably erased the gains we experienced the last twenty years but we own two very nice properties free and clear. We’ll wait out this cycle and only sell when we think the time is right, if ever. This is a cycle, though a severe one at a national level, not dissimilar to what we experienced at a local level in Texas years ago. Some of these cycles take many years to come out of so it is likely that appreciation will be muted once the bottom in prices finally achieved, but real estate appreciation will vary widely across the country. The lesson for Americans is in history where the country and global economies have experienced boom bust cycles numerous times, usually about every 20 to 40 years. Cycles are part of human nature as people bet on the future and the economy overshoots and corrects. One other point we would make is that people should consider how they invest their money outside real estate. We lost money in various assets like oil and gas partnerships, the stock market, etc. this was despite an effort to understand these investments. However, we’ve been pleased with our muni bond ladder which has delivered the equivalent of 8% pretax over the past 9 years. It’s important that everyone understand various asset classes and invest in things that fit their risk tolerance. There will be various threats to every asset class. Finding investments you can understand and stick with is an important tactic to enable you to sleep well and make money. During the last crash our munis were down 3% at the bottom and we’re now up 12% plus after tax income of 5% annually we’ve gained each year. The lesson we’ve learned is that it can be difficult to make money but patience and hard work (and saving 20 to 30% of your earned income so you can invest) all add up to progress over the long haul.
Everyone complaining about their house losing value all the time is extremely annoying. If you don’t like it, walk away. Nobody is holding a gun to your head. People buy houses as investments. Period! If you make a bad investment do you stick around in it because you told them you would? Only if you want to be in financial ruin and someone who buys “Starter home” is looking to make money, not live there until its paid off. They want to live there for the 5 years or less like this guy is talking about and turn around and make a profit. Our system failed because it was set up so that “everyone” can buy a home. That should not be the case….only select few should be able to buy homes. There should be stricter underwriting guidelines that do not allow these risky loans to people who don’t qualify.
Also, if people are worried about their credit taking a hit….that is completely bogus. I foreclosed on 2 houses less than 2 years ago and my credit score is still 720+. Just bought 2 new cars and my rates are 1-2%. Walk away now and enjoy financial freedom as well as piece of mind. I had the moral issue of I took this mortgage and I have to pay it off, but at the end of the day its not a moral issue….Its a financial one.
Walkaway: For many people (including myself) who are underwater the prospect of walking away is a real alternative. For folk reading this comment line, though, you should check your state laws to see if you are in a recourse or non-recourse state. In a non-recourse state part of the deal is that the lender only has the house as security for the loan. If you walk away they cannot come after you for any deficiency. HOWEVER, that only applies to original purchase money mortgages. If you refinance it converts your loan into a recourse loan and they can come after you for the deficiency.
If your home loses value, but you’re still employed and can still make the payments, then you have a legal and ethical obligation to make your payments. Otherwise, you’re a scumbag.
I agree, Big Frank(except for maybe the “scumbag” reference). This attitude of “walk away and let someone else clean up your mess/ pay your debt” is also what has gotten us into the financial wreck we are in. Folks who walk away are kidding themselves if they think it is only the banks will absorb their default (or worse- perhaps like an infant they are “takers” only thinking of themselves). Come on people!! -Time to man/ woman up, & do the right thing – not necessarily what is easiest ….. If it is at ALL possible – (not expedient ) take care of your own house & clean up your own messes. Where is your pride & self worth? If the only work available is cleaning toilets- then let’s get to work… We do what we have to do. Survivalists are always going to float . People with their hand out are going to look to others to blame or demand that others “share” . It’s the classic Little Red Hen scenario. There is joy in working really hard and being a good steward; in sharing with those who are less fortunate. But, irresponsibility does not inspire giving. I cannot imagine being a moocher is all that gratifying and I imagine for some these days, bad habits are (becoming?) chronic…..(sooo many “bail me out” opportunities) It’s tough love time folks …. otherwise surely it will be to the demise of us all (unless, that is the idea) However, I don’t know about you , but I will not go quietly into the night , nor will I buy into some flawed idea that “everyone else is doing it” or somebody owes me(we can all trade sad stories) . I like my autonomy and self- sufficiency way too much and I am certain God didn’t design too many of us to be dependent wimps .
People, don’t buy your home as a step-up investment mechanism. If that is what you are doing, you are definitely not smart. If you want to speculate in real estate which is NOT your primary home, that’s a little more palatable. Because of the vagaries of the market, you always need to be prepared for a downturn. What is the easiest way? Own the home as soon as you can…
I agree with houseregrets. I purchased a one-bedroom townhome in Aurora, CO in 2001, with a fixed rate FHA loan. At the time I had what I thought was a safe, stable job. That was two recessions ago. Now, even though I’ve been faithfully paying on this mortgage for ten years, I have zero equity. The market value for attached housing in the neighborhood has gone south and I owe more on the townhome than the place is actually worth, even with all of the upgrades I made to the place (new bath and kitchen, new furnace, new flooring, new appliances) over the years. It proved unsellable as of 2006 and sat empty for a year while I and my new husband hoped the market would recover. It never did and I doubt it ever will. I’ve kept it rented out, but due to the high number of rentals in the area, the amount of money I can collect in rent won’t cover the cost of the mortgage and the HOA fees (which have steadily risen over the last five years). I wish I’d never purchased the place. There are times I have dreams where I torch my property and dance around with a gas can and a pack of matches just to make the stress of having to keep this place up and the payments made to the snakes at BoA go away. To make matters worse, my company decided to lay off everyone this year and send all of the work my team used to do to the Philippines. We will NEVER have any kind of housing recovery, no new homebuyers and no way out of this mess until those who would be first-time-homebuyers have jobs with which to pay a mortgage. Unless we stop shipping all of our work overseas to the slave labor in Asia, there will be no end to the ongoing housing mess.
CJ
Your case has happened so often, it’s just a shame. But I do remember the Eighties and Nineties how we were almost universally exuberant over our new “Service” economy, which presumed to forever flourish while eventually not producing anything tangible (well, except perhaps military armament). Our big “export” would be financial services–who in their right mind is buying financial services from us now? In the meantime we kow-towed to whatever Business said was good for us, even though business people tend to be pretty ignorant otherwise– I have found worship of Business a particular infection of our national mind-set going way back to the 1700s. The idea that was popularized by both the government and business of using the place you live in as an investment was particularly stupid–why not treat your family and friends the same way? Why does everything in life here have to involve a profit? You can’t even look at a city bus without seeing advertising all over it anymore!
Anyway my sympathy, and I hope you find some livable niche in the new economic reality we find ourselves in. It’s not changing any time soon.
But you’ve lived in a place that many people regard as paradise on Earth. I’d love to live in Colorado, even to be relatively poor there. I don’t even find opportunities that qualify for that!
I do not think this 5 year rule is relevant anymore. With the market changing and banks not lending like before and many of us unable to refinance or move, we are stuck paying 6.5% on properties that are not worth anywhere near what they were 4.5 years ago and HOA fees, Home Insurance, utility bills,property taxes, mortgage insurance and childcare taking the rest of our money. Paying $2600/month for mortgage for a house vs. renting an apartment in MD for $1500/month seems so crazy now. I do not see any point at which the market will change and our payments will improve. Interest rates are so low now but if you already in the house you cannot get those rates. Only new buyers can get them. Seems we are doomed to paying until we can’t pay anymore then foreclosure since banks/lenders are not willing to work with you to allow you to stay in your home even though they know it is worth far less than what you paid for it before the housing market crash.
When I buy a house, I like the rent to pay for the house in five years preferably, although occasionally I will pay more if I like the house. I don’t need to include insurance or taxes in these figures and I don’t include interest on loans. This has worked well for me.
Swahls
I don’t see how this works. Texas prices (where I happen to live), for a reasonably comfortable home in a low-crime neighborhood, is about $1/sq. ft to rent per month. (this includes the taxes, insurance, upkeep and profit; in USA, where we include kitchen, bathrooms, etc in the square footage). So, that comes to something less than $12/sq. ft. per year, or $60/sq.ft. under the five year pay-for-itself scenario. (no time value of money)
An equivalent house here to own is about $95/sq.ft. So, rent paying it off doesn’t even come close; taking only the principal part of it that you implied, amounts to even less . The only the way this would work is if you found some incredible bargain (that didn’t need a bunch of repairs and merited the rent you charged). Unless of course you own cheap shacks and are able to charge outrageous rents for them, but I don’t think you’re doing that. I guess the type of house I used in the example would just not be a suitable investment under your approach, but I can’t think of anywhere around here that would, and we have relatively cheap housing here in Houston.
Texas is one of the few places that didn’t go insane over the housing bubble, but I suspect the ratio of rent per sq.ft. per month to price per sq ft is similar elsewhere, including where you live. However, it does look like rents may be going up now relative to real estate prices, especially with 20% downs and the like becoming more commonplace. I like to look at it more as return on capital, compared to alternative investments of the money, which is a longer term view, but I appreciate, given all the volatility in home prices, how one would prefer to make it financially pay back in five years or less, instead.
Texas is a very big place. I own some property in Texas that I couldn’t, if I had to, sell. I have 80 acres of arable land with water and a private road that might go on the order of $4500/acre if I really tried hard to get a buyer. I’m not into that. I have a 2 bedroom house that might get $30K, again if I put a lot of effort (money) into it. I live an work in the land of $160/sqft real estate so these numbers don’t do a thing for me. On the other hand, places where I’d actually like to live in Texas are nowhere near affordable to me. If I live to retirement age or whatever and am facing any kind of hardship or poverty, I’m quite sure I’ll be happy to put a trailer on my land. But until then I want to not only live in a city, I want to live in a functional city with character, close to its cultural center (e.g., close enough to walk!), and not in any kind of apartment, condo, high rise, or beehive. That turns out to be *expensive* no matter what. For a Texas example of what I want, how about a single family detached house with a yard big enough for 2 German Shepherds, but walking/bicycle distance from Zilker Park in Austin? That’s not something you’ll find for rent at any price, and probably upwards of $500K even now.
Watch out for Real Estate “agents” or “Realtors”. They’re only looking out for themselves (family, friend or not) and will sell you down the river to make a buck. It’s much better to hire an attorney at a fixed rate to handle all real estate transactions.
My family was fortunate to buy a condo in 1998 and sell/buy 3 homes after that as we moved and our needs changed. That was all possible because of the easy credit market and rising home prices. In each case, we intended to own the home longer but then our needs changed and we were fortunate to generally come out well so that we still had enough cash to put over 25% down on what we hope is the final house until kids go to college in 10-15 years.
In our most recent move, we sold first and then rented for 15 months while we looked for a house. I highly recommend people do not rush into buying a home–as a renter you have so much more power than the person who is trying to sell in this market so you can buy something else. As a renter with savings, you have so much more freedom and so much power. If you have a 20% in the bank saved up for a house and you lose your job…no problem. If you just bought a house…big problem. We sold one house late–carrying two mortgages for 4 months–NEVER AGAIN! I think the marketplace has changed radically and permanently–so you should not buy a house expecting it to be a stepping stone. Rent in the neighborhood you think you want to buy and have patience. Learn what really matters.
Even with 25% down and perfect credit, we had to be on top of our bank and underwriter constantly to avoid the loan falling through. After we moved in, we learned that the people who sold to us DID have their purchase fall through and had to live with relatives, their three young children, and a u-haul full of their stuff for 6 weeks until they could get a loan. Now is not a time to think you can be hopping around from house to house, “upgrading” or whatever. It is worthwhile to hold out for the perfect house and rent until you can afford it.
I bought my first home when I was 23, I consulted everyone I could before looking for a house. I was not and am not now fabulously wealthy so buying a house was a huge investment especially seeing as how my last huge investment (college) didn’t really pay off (thanks recession!). My dad went with me to see every house I looked at and in the end I bought a fixer upper not because anybody else told me I should but because I loved the house from the second I walked in and it was in pretty good shape. The walls need patched and we had to replace the appliance BUT my mortgage payment is $200/month and I’m planning to have the house paid off in 10 or 15 years instead of 30. I live in a decent neighborhood and good school district. It took me a few months to find a house I wanted but patience worked out GREAT for me in the end. As my favorite college professor used to say, “Make smart choices not quick ones. “
Location is everything. Where in the world do you have a $200/mo mortgage? On what kind of property? How much did you put down? I’m guessing that’s a $30K property or so.
My break-even period of buying vs. renting was 4.3 years. There are a ton of assumptions built in. This article does not reflect the details of calculating that 5 year break-even period. For instance, buying is only better than renting when your home is appreciating. Otherwise, you’re better off renting and investing the difference (mortgage+property tax – rent for equivalent property) in a portfolio. The major component that makes buying attractive is possible appreciation on a leveraged asset.
Many of us pay cash, so why wasn’t that option discussed???
I think that the loss of money in changing a house in three years is a good point.
But it may well be a good deal if the price of current house has increased exponentially.
But again, if your current home’s price has increased exponentially, you cannot assume that the price of the new house that you want to buy is less either.
For those of you who bought in 2006, I am sorry for the timing of your investment. I bought in Dec. 2008 at a time when most people would have thought it was crazy to buy a house…but we put over 20% down on a townhome, that was foreclosed on…so we got it for nearly 50% off of the purchase price in 2006…The mortgage including prop. taxes is $300 less than we were paying in rent, and it’s been appraised at $10k more than we bought it for…so I guess what I am saying is…buy when the market is at it’s LOWEST, buy less than you can afford, buy it knowing it is a place to live, not a quick money making scheme, buy with the intention of living in it for more than 5 years, buy with enough money and credit to get a good loan at payments you can afford, and do your homework on the neighborhood – seek a location that isn’t going to tank and never rebound, or rebound so slowly that you can’t get out of it without a loss due to growth in family, job loss, or extended commutes.
We fully intend to buy another house in the next 3-5 years, we will rent out the house we own now for more than the mortgage and prop taxes and HOA and use the difference to help pay for the new house…that folks is investing 101.
Selling after 5 years or less may not be a bad idea, even if you fall slightly short of breaking even (buying vs renting), because the value of living in your own hand-picked personalized home is worth the price. The article didn’t mention this factor.
Depends of course on how much money you lose buying vs renting for this number of yrs. A large shortfall would be hard to swallow.
In today’s rocky economy, no one knows where we’ll be 1 year from now when it comes to home prices and interest rates, let alone 5 years. So for those who bought before the market started to crash, don’t beat yourself up; you couldn’t predict this, you did what you thought was best at the time…
And I plan to buy my first home now based on current favorable conditions. I worked for one company for 10 yrs, was laid off a year ago, and found a new job a few months ago. I’m targeting homes w/ prices that would allow me to use about half my savings for the down payment and closing. If I have to relocate in a few years, and I may have to, I can rent it out and have enough cash left to buy another house. Can’t over analyze what the future may hold when it’s so uncertain, just do what makes sense now and definitely err on the side of caution. Must have some cushion to allow options in case of income interruption or relocation.
There is no five year rule; there is no X year rule. The way the math works out is you need to stay in any house long enough such that when you do sell it you’re in a positive cash flow situation. In other words, after the sale is done and ALL sale-related bills are paid, you make a deposit into your checking or savings account.
Obviously the greater the deposit the better. But if you financed 90% or higher the chances of you getting a positive cash flow after sale is virtually nil if you stay only five years. If you managed a 100% financing you’re even less likely to make money on a sale. The more you financed, the worse off you are.
The math is really simple: get the payoff amount from your mortgage company, check what comparable houses in your area are selling for and subtract what you owe from the sale amount expected. If the number you get is negative you’ll lose money in the sale. If the number is positive that’s what you’ll have to keep less your closing obligations. If the number is negative, divide that number by the amount of your yearly payments LESS ESCROW PAYMENTS and that number is the years you have remaining to get to the break even point.
You can help yourself tremendously by making double or triple payments against the loan principle. But you need to run your own numbers and disregard any generalizations concerning “rules”.
Yes, please continue to rent. I paid off my house 10 years ago in Florida. Sold it, moved to NM. Got a better house for less money and insurance. Bought five houses in four years, cashed out 401(k) and paid off three.. I am making 12% on my ression proof investment not to menition the tax breaks that being a landlord brings.
I would add one more long-term cost: city-proviced costs of water, sewer and garbage collection. I bought a house, never checked these prices, and was hit with very expensive water, sewer and garbage collection.
Another one more thing. My first-year property taxes were quite low, and I was doing pretty well. But the second year, the city finally got around to assessing the value of my house, and my property taxes went sky-high. And, of course, neither the bank nor the real estate agent told me about this, because they just wanted to make a sale.
Federal Income tax Deductions/Tax Breaks/ State income tax deductions /Tax Breaks/ Municpal tax Deductions and tax breaks (Hello NYC). No serious analysis of cost of buying versus renting can be done without these parameters I don’t see these mentioned. Therefore I conclude this is not a serious analysis.
As far as the five year rule…. well the current market proved that’s bonk. Its not five years or three or seven or one or ten. Its a simple formula of (what you pay) – (closing costs) versus the market value will be when you plan on selling (minus closing costs). Then add the cost of renting and benefits of owning (tax deductions) and subtract the cost of owning and poof that’s it.
The current market fluctuations have had much more influence then any closing costs.
Ah Neo OF COURSE there is no serious analysis. It’s a rule of thumb, like double your hourly rate and that is approximately what your annual salary is…not a hard fast rule like buy stocks low and sell high.
Almost everyone who has commented here seems to want to either bitch about their circumstances or poke holes in this blog’s subject. You’re reading a blog written by someone for whom English is not their first language…of course it’s not gonna cover every situation out there.
In a normal market, one that wasn’t perverted by the subprime lending and the heloc your future for vacation now mania, 5 years is a good break even average. Your Mileage May Vary!
People that can’t walk away are stuck. I walk, I lose my job. The bottom line is that the U.S. Governement needs to help it’s own like it helped the big banks, Hatians, Iraq’s, Japanese, and so on, so on…. The American people need help.. I don’t wan’t a hand out, just stop the stupidity in Washington. Pay off the debts of war and borrowing and let’s get back to being GREAT…Our housing issues will take care of themselves, if Washington quits giving handouts to everyone in the world, including illegals and lazy Americans
These days only buy a house you like, in a place you like and plan to live in forever. A house is no longer an investment. It is more like a new car, it depreciates the minute you permanently get the keys. I am in a state where you cannot just walk away, so even though I am 75k underwater I am stuck. The only reason I am not 125k under is I had been paying ahead, but when the market crashed, it took 50k of my hard made pre-payment value with it. So I strongly re-statem unless you love the house and want to stay there until it is paid off and then sell it for whatever you can get, do not buy.
My own opinion:
* Buy a house you would be willing to own for the rest of your life.
* Pay only UNDER present market value (even though this means turning your back on some tempting homes, be fiscally wise and look for one of the many deals available today.)
* Put at least 20% down. If you don’t have that much saved up, rent cheaply until you do.
* Lock in a 15-year or 30- year fixed-rate mortgage. Personally, I prefer the using a 30-year mortgage, and paying down extra as you see fit. By doing so, it’s possible to get nearly all the financial benefits of the 15-year mortgage without committing to one in these uncertain times.
* Buy within your means but stretch as much as possible. If housing ever recovers, you’ll profit more; if it doesn’t, you’ll have a bigger and/or better house for the rest of your life. Remember to factor in the tax deductions, but don’t count on them! Times are changing, and the “untouchable” mortgage deduction could one day be a thing of the past.
* Think about school districts, even if you don’t have kids. Someday you might end up raising a family in your house. Also, homes in good school districts have a wider pool of interested buyers and can bring in more money at resale.
* Make sure you can live with the negative aspects of the home. All houses have drawbacks, but some are worse than others, and it’s all relative. For example, does it have only one bathroom, and is that a problem for you? What if you can never afford to add another? Or, are you an avid gardener and is the property’s square footage a bit too small for you? Will this be an issue for you over the years? Is the street too busy for children to safely play? Will you regret that later? Etc. Only you can determine what matters and what doesn’t, but don’t kid yourself and don’t pretend away certain issues that really do matter to you.
* Don’t think of a house as an investment. You may make money, you may lose money. Don’t let your judgment be clouded by overly-sentimental emotion either. Falling in love with a house doesn’t make it a wise purchase. The best place to be is somewhere in the middle — your purchase should make sense on a financial level, meet your needs on a practical level, and make you happy on an emotional level. You may live in this house for the rest of your life, so if you can’t at least say these three things at the start, you probably haven’t found the right house yet.
Lauren, I think you are brilliant . . so much common sense. Maybe becz my husband & I intuitively basically did what you say.
Two yrs ago, we had to move (job).
Bought a foreclosed property very quickly, figuring to stay 5-6 yrs till the youngest kid (of 3) graduated from the excellent area high school, then we would leave. Put down a chunk of cash from selling our other house (having been in it 25 yrs) and leveraged the rest as a HELOC on an 8-yr payback term against our rental property that we paid off years ago. We pay less per month than local rentals and we didn’t pay into the ridiculously expensive mortgage racket. Basically we are paying ourselves back against the other house. Our interest is prime minus x; we secured the terms many years ago during the “hot” market while the rental was appreciating. The HELOC was there & waiting when we needed it with the terms already locked in. (Another advantage of owning vs renting–unless you abuse it.)
My “job” as regards this house is to maintain it, upgrade minimally to keep it marketable and livable, and otherwise not to overdo. I am doing most of the work myself (good ole sweat equity).
Now we see that we could be “stuck” in this house because the market is plummeting.
But. It happens to be a beautiful house in a fabulous old neighborhood. The price we paid seemed low at the time, now it looks like that’s where the market was going anyway. If we are stuck, we’re okay here. If we can get out, that’s okay too, we’ll follow the original plan to downsize. Even if we sell for less than we paid, compared to renting we’ll still be happy because of x number of years in a very nice house/neighborhood, great schools, great neighbors, etc. Who knew we’d like it so much?
I think this is a rule of life. Don’t invest yourself heavily in something you don’t honestly, actually LIKE, thinking “I’ll just move on as soon as I can afford to.” Like relationships. Jobs. Graduate degrees. Neighborhoods. Make sure each step has value & worth, in both the short- and long-term, because (1) you could be stuck there; and (2) each step leads to the next & influences where you’re going.
I love this house yet am willing to leave it if/when the market allows–AFTER that final high-school graduation!
For some people,house-hopping is a form of investment. So, naturally, different rules will apply. I think you have to know your “category” to know which rules work. We happen to put family first (schools, jobs, feeling at home, feeling safe, warm & happy). So not making a “killing” on this place is okay for us. But if you are the kind of person who has to make a bundle on everything you do in life, follow your own rules for doing that. In the end, we will all have lived the life we chose and you have to appreciate, enjoy, & honor your own choices and results.
While I agree with almost everything being said in this thread and this post in particular, I have one gotcha: do not ever pay more than a couple of dollars in additional equity into your home. Reasons: 1. this will work against you in any negotiations with the bank. 2. put the money in a safe holding place (ie, savings, cd) that way, if and when you run into job loss, medical issues you still have the money and can continue to make your payments. When the money in the savings account reaches the balance of the equity, then pay off the mortgage. Make sure to leave yourself some extra money for taxes and insurance since you don’t want the county to own the house.
Lauren and Weena, thanks for the posts. I rushed into purchasing my current condo after my first condo deal fell through the week of closing. Although the unit is nice, a good size and I got a good price (as a foreclosure) the neighborhood is not one I can live with. I also have an awful HOA so I have been miserable since I purchased in 2009.
The only saving grace is my low monthly payment, which is allowing me to save up for a new place. I’m much more savvy about the buying process but your post will make me think harder about what is a must in the next place I buy. I know I want kids in the next 10 years, so I will actually check the school districts out instead of assuming I’ll “upgrade” my home in 5 years.
No mention at all about tax deductions. My mortgage interest is basically the only tax deduction I have. Where is that in this “anal ysis?”
If everyone paid what they thought a house was worth and could afford what they thought the house was worth when they bought we wouldn’t be in the situtation we are in. Enough of all the crying in these comments about what the book value of your house is. If you made a decision to buy a house you could afford, for the amount you thought it was worth, then you only have yourself to blame and knowone else if you made a bad decision. Live with it and make the the best of the situation you find yourself in. Housing is not an investment and if you though of it as such you should of known all investments have risks.
I’ve read all of your posts and it seems to me that every one of you have missed the point of buying a house. Its not about 5 or 10 years or moving on to bigger and better living quarters. It so that when you hit your retirement years and your income drops (hope you will get to see SSI) the house you could afford to make payments on for all those years is PAID OFF! and NO landlord can throw you out on your Sorry OLD Arss. Just amagine being 60 with 29 years left on your Mortgage OR worse no where to live because the retirement you planed on got voted out by Congress after you had paid into it for 30 years.
When I first went looking for a house, I was asked how long I intended to live in it. I said I planned to live there about a year and then rent it out. I bought a condo. Each year I’ve lived there, I would have answered the question the same: I hope to leave in about a year. But circumstances kept me here. After five years or so, the condo association board instituted a rule that prevented more than a certain percentage of units to become rentals, effectively preventing most of us owners from renting our units out. I’ve now been here 10 years and, due to a number of owners having gotten special permission from the board to rent their units out due to their distressed financial situation, I am so far down on the waiting list to rent that I doubt I will ever be able to rent it out. I’d still like to move in the “next few years,” but I probably can’t do so because I can’t rent my unit out and can’t sell it for as much as I paid for it 10 years ago. I’m stuck here.
The point of my story is that unexpected circumstances can often completely mess up that estimate you made of how long you intend to live in a house.
Lobelia, are you telling me in 10 years you haven’t paid down enough of your mortgage that you hopefully purchased with a decent down payment to be able to sell? maybe not for what you paid 10 years ago, but for enough to either even out the mortgage or bring only a small amount of money to the table?
As for renting, walk into your associating meeting and toss a set of keys (not your actual ones of course) and say “either let me rent my condo or you can have my place as it goes into foreclosure, good luck with the association fees”.
There are no five year rules or any rules valid today when it comes to buying property; every area is unique and different, though overall it’s still a dumb move. Housing continues to go down and will go down in most areas (and possibly some that haven’t gone down much yet) as long as unemployment is high, foreclosed inventory is high and the overall economy remains unstable and weak. When I hear people saying they bought a home, I wonder, what makes them think it’s a good time to buy? Have prices remained stable for at least six months? Has the economy sharply improved and has the number of people employed gone up significantly?
Is this advice coming from someone who lives in 2006 who magically came into 2011 to grant us this sage wisdom? C’mon!
The facts now as they stand with market prices for housing are such that if you are a homeowner, you’re lucky to be not taking a hit after only five years. I bought my house in 2006 and my house just recently made it back to the value of what I bought it for.
This 5 year rule is good, yet is horrendously arbitrary. Factors such as market area, down payment amount and the loan type all factor in more than the passage of time.
Before I bought my first house about 15 years ago, I created a spreadsheet designed to answer this question. I designed it so that I could input data such as the purchase price of the home; the amount of the mortgage; the mortgage interest rate; a lost opportunity cost for making a down payment instead of investing that money; inflation; closing costs; expected annual maintenance costs, expected federal tax deduction from the payment of mortgage interest; utilities; rent and utilities that i would pay if I didn’t purchase a house; the rate that my rent would increase annually (this is a biggie); property taxes; the federal tax deduction from property taxes; the price I expected to eventually sell the house for; etc., and the spreadsheet would calculate the amount of time I would need to live in the house to reach that break-even point. It took me a long time to compile this spreadsheet, as you might imagine.
What I found was that, given the assumptions I used and assuming that I could sell the house for exactly the same amount I purchased it for, it would take exactly four years and ten months for the house to be a better financial choice than renting.
Back then, the interest rate on a mortgage was around 7.25%, which is a big difference from what it is now–but it was interesting that I came up with essentially the same number as this rule of thumb. Unfortunately, I can no longer find the spreadsheet . . .
Dumpicles, Loved your post. Was thinking you were so smart and analytical and then read your last line. It made me laugh out loud. Whole thread is way to serious. Live where you love, and can afford, and enjoy every minute of it. Who knows what tomorrow will bring
Lol, no, it would just be to satisfy my curiosity, no different than trying to determine how many licks it takes to get to the middle of a tootsie-roll pop. When I made the spreadsheet, I hadn’t even heard of the five-year rule of thumb, and I was curious what the answer was. Now, things are a lot different–the mortgage rates are much lower, but so are the marginal tax rates, and I’d love to know how much of a difference it makes. I really doubt it really matters much, so long as you’re in the 4-7 year range.
I sold my house last year because of a work move. Luckily, I made a small profit. Now I’m renting for the first time in 15 years. And man, is the cash rolling into my saving account! I never realized how much all the nickle and dime costs to own a house add up. Now if the A/C, dishwasher, etc breaks, I just call the landlord and he fixes it for free. In 2-3 years, I”ll probably save enough to buy a house for cash, if I want too. But with home prices still dropping, what’s the rush. I have to say that in the post-crash real estate world, renting beats owning hands down.
You have to consider the cost of rent, the area you plan to live (urban vs. rural), income stability, family size, and what houses you can get on that monthly budget. Personally I don’t believe in the 5 year rule… I’d never buy a home I only planned to stay in for 5 years. With interest and real estate fees I’d be only breaking even, even before the housing crisis.
I’m actually about to purchase my first home. Why? Because for roughly the SAME cost as renting we get much more room and space. Why would I want to stay in a 1 bedroom apartment where my rent can go up at any time, and i may have to move when the space gets too small? When for the same price I could move only once and lock into that low price and get the larger space now? Financially that makes NO sense. Renting is so much more expensive then a mortgage! Rental rates are going up and home prices and interest rates are low!
For me its a no brainer! Renting is just throwing money down the toilet!
Besides, I’m not happy with no yard and a space i can’t express my personality in. We need our own space, i’m so done sharing a wall, a parking space, and a tiny little patch of grass. I want my kids to have a yard to play in, not a parking lot.
In my neighborhood in LA the rents are substantially higher than the cost to buy. There are so many people with screwed up credit, the sky’s the limit for rents right now. If you have a job and good enough credit to buy a condo you can have a payment far less than renting an apartment. These old fashioned rules don’t apply here.
What are of LA do you live in? Planning to move there in Summer and would like to buy.
I’ve realized that if I buy a property I don’t look at it as a long term investment anymore. Buying real estate these days is like trading in the stock market–short term. In some cases it’s longer but that’s only if you want to rent or lease that property.
In Austin, TX home prices have stabilized but there is still a lot of supply. Rent is sky high and some people are dumb enough to pay the 5k/month rent to live downtown…not me. That is a waste of money.
Forget the 5 year rule and apply the 15 year rule. Buy an adequate size house, get a 15 year mortgage, save a ton of interest expense, have the house paid for by the time the children are ready for college, have the avaibility of another 15 year mortgage if needed, and then be free and clear by retirement, and just bite the bullet !
Hey guys this is very interesting. Let me tell you Australians could only dream of tax deductible mortgages on their family homes and fixed rates for 30 years. On our homes which are called Principle place of residence we pay the mortgage with no tax relief, are paying 6.7% interests on our loans and fall on our knees every 3 months when our Reserve Bank decides whether they will raise or lower the interest rates. Australia is not the lucky Country at all. Our system is a disgrace compared to the US.
I have bought numerous foreclosures as investments, “post crash” and here are my comments.
1. Overall the premise of this article is good advice. Consider your house a long term investment. 2. Foreclosures today can be bargains and often go for the lowest prices in the neighborhood. 3. Home owners can get extremely low financing today. Make sure you get a 30 year fixed. This financing will not be around when the U.S. economy recovers as the FED will raise interest rates.
My advice: Right now is an excellent time to buy. There are bargains combined with low interest rates. My opinion is that the market has taken most of the price decline already so we are approaching a bottom. In certain submarkets we are already there.
My wife and I have been renting a sub 1000 sq ft apartment for $1500 a month. That’s a lot for so little but it was necessary. When we got married we worked 100 miles apart from each other and moved to the middle which just so happened to be smack dab in the heart of downtown Houston. You can’t rent cheaply there. Even moving a couple miles either direction would have added to an already horrible drive since traffic would have factored in much higher for one of us.
Fast forward to today. For some stupid reason we had $32K in cc debt that we shouldn’t have had. We paid it off in a year and the money started rolling in. I got a job much closer that will allow us to move out to the suburbs to keep each of our drives around 30 miles each. That’s not bad for Houston. Some people in other parts of the country don’t understand how this city and it’s jobs are spread out. We started saving money. Our credit scores are in the mid to high 700′s. We need to move but the question is whether or not renting for another year is going to do anything for us that buying now wouldn’t.
We are currently trying to buy a house. We qualified for a $700K loan and are trying to purchase a $232K home on a 15 year loan at a 3.5% interest rate. That’s near laughable! With such a short term loan and low interest rate we aren’t putting much money down. As little as possible which for us is a lowly 3.5%. We’ll still hit the equity mark of 20% in that house in only 4 years and we still aren’t going to pay the minimums. Our plan is to pay it off in around 10 years. Yes our out of pocket per month will rise over what we pay now for a number or reasons. We’ve got high property taxes, utilities will go up and maintenance is our responsibility. Those will never change regardless of when we buy a house but the odds of an interest rate staying going even lower or staying here forever is pretty slim. It may not move for a little while but why risk it? The house is also 3X the size of our rental. We plan to stay here until our kids graduate high school. We don’t have any kids right now. The house is 18 years old in an established neighborhood and prices in this part of the country are fairly stable. We aren’t California where houses even today cost 3X to 4X more than they would cost here which is ridiculous.
I don’t only look at time as the main criteria to decide if renting is a better option but also interest, condition of the property, how much you have in the bank for a rainy day, as well as your personal comfort level and space requirements. We could certainly buy a house the size of our rental and come out way ahead financially but we’d probably be mugged walking to the car. If we tried to rent a house the size that was are wanting to buy we’d pay far more. In the end though the math told us that for our personal use making the assumption that the house never increases in value that we’d need just over 4 years to “break even” on it so I’d say not too shabby in relation to this article.
It is a very good time to buy. The worst is over and the interest rates are low. It is unlikely that the market would reach any lower and even then why take the risk? The market might become better and you may lose the good interest rates later on.
I just bought a condo in Vietnam for more than $50,000. I’m financing it for five years. It’s a small, and I’m paying almost $1,000 a month to start, but it will be mine in five years. At that time, we’ll probably move out and buy something else but keep it for my in-laws or rent it out.
As always, its location, location, location. I bought my house in Tampa, which is among the hardest hit metros the same time the first commentator said prices were still falling (June ’11). Well, I found that to be faulty at the time, and yep, I was right. Plus, I made sure to get a home that I would make my closings back on in the resell. 6 mos. later and my neighbor is selling their house for $25k more than I bought ours and is a shadow of what ours’ is. The 5 yr rule is a good rule of thumb, but it isn’t infallible.
The theory here is all fine and dandy in a robust economy, not now. Though I am not upside down, I’m either even or slightly ahead of even on what I owe versus the home value now that the housing mess has reduced the value by a significant amount. I’d have changed houses/cities a long time ago if I could sell and use that money for a downpayment on a different house. Even if I had a little of that equity left, I’d do it knowing that in the long run I would even out by an eventual increase in the new home. That’s not possible now. That’s what is holding this economy back. Nobody has the ability to move to get a new job in a new city if it means selling a house and hoping to buy again. I refuse to sell and then have nothing for a downpayment, so that when houses do go back up, I am stuck renting.
Terrible advice, really. Do some more homework and come back at us with a solution for the current situation, not the dream-equity situation of 2005.
Just as all real estate is local, each case is going to be different. Do your homework and don’t think there are ever any “rules” in real estate (other than legal rules, of course).
Buy any house you can afford as long as you intend to live in it (almost) forever (just like when your parents and grandparents did). In 30 years it will be paid off and no matter how the market goes you will have a nest egg, it’s just a matter of how big. No one can predict the market. In some places it has corrected and gone up 9which doesn’t mean it won’t come back down). In some places only time will tell. Buy something you can keep where the cost is within your means.
there’s no such thing as a riskless investment. And the higher the reward, the higher the risk. Like Jack and others have said, if you look at a house as a place to live for the long term and not a quick profit vehicle AND vette your purchase by choosing a location with good schools and amenities, you should do alright over the long term. If you are trying to get a quick profit, you have to understand the risks.
@Richard, you asked where you screwed up. I’m sorry for your situation. Based on what you said, taking out money against your equity 5 years ago when everyone had to know the bubble was bursting was your “mistake. ” Maybe you had to make those updates and maybe you thought that pole barn was a good investment. Apparently it wasn’t so. Ask yourself: if you had done it one year sooner or one year later, would your situation be any different?
Just like snow flakes, everybody is different. Do your homework. Check if your situation is appropriate for the 5-year rule. If it is and you are happy with what might happen in 5 years, then do it. But in spite of your diligence, it can still go sour. If you think 3 years, or 8 years, or even 10 years are more realistic, then buy with those numbers in mind. If you have doubts, then don’t. You will live happier. Life is about being happy. You have to find out what will make you happy. Just like snow flakes, happiness is different for everybody. Trust me. I am a happy. Remember, 200 years from now almost all of us living now will be gone and nobody will remember us, unless you did something extraordinary and arguing about 5-year rule is not one of them. Be happy.
The five year rule was very very true before 2006. I bought my first house in 1994 and sold it five years later and made a profit, I lived in my second home for 5 years years and made a very very large profit. I bought my 3rd house in 2006 not to say I paid of $90,000 dollars worth of debt and put $65,000 down on my new home that was inflated. My mortgage is under water but because of the Obama adminstration (THANK GOD FOR SMART PEOPLE) I got a loan modification on my mortgage, although there in no equity in my home. I am still in it and living just great. thank you President Obama for thinking about the people, because the past 8 years before your the only thing the p[oliticians were thinking about was there own selfish bigot azzes.
It is evident many of the comments here are from people under 40. I feel your pain, but you are still relatively young and this is your first real recession. Have patience and faith, all will work out as it should. I am 54 now, this is my 2nd big recession. Bought my first townhouse in the recession of 1980. The price was $58,000 the interest rate was 13.5% (prime was 19%) The payment was $858 a month and I was making $30,000 a year. God, I thought I was gonna go bankrupt. I moved 5 times between 1980 and 1997. I sold 2 for a profit and 2 for a net loss. The home I live in now I bought in 1997 (sold one and bought one at the then bottom of the market). It is less house than I can afford but it is very nice AND it is PAID FOR. My advice is that if you are looking to buy your first home and you have to put it on a 30 year mortgage, that’s fine, but your goal must be NO MATTER WHAT – 30 years from the first purchase – the home you are living in should be paid for. The only reason to buy is to eventually OWN OUTRIGHT. If you own your home outright, you’ll never be homeless and you’ll be financially secure. As for those of you advocating walking away – shame on you. Honorable people pay their debts as promised on time. For those of you who currently owe more than it is worth, don’t worry, there is no loss until you sell. Patience and faith, this too shall pass. The home I bought in 1989 dropped in value by 40% 6 months after I bought it, it took nearly 9 years to get back to even, the guy I sold it to, sold it 4 years later for a 300K profit. These difficult times are teaching you and your children good habits. Hang in there, pay down principal as fast as you can and all will be well.
“if you assume that the long term trend of real estate is up”: if you’re still assuming that after seeing what happened the last couple years, you’re a MORON and should go take all your savings and set them on fire. It’ll save you the commission if nothing else…
First of all, why do you need to own a house? What is this nonsense that the landlord will throw you out? And if they do, so what? Go somewhere else. Don’t act as though there is no other place to go for rental!
Earn, save, invest, and retire wherever – Bahamas or someplace else! What do you need a house for? Pay such a large mortgage, live under fear for 30 yrs till the mortgage is paid off, and you cannot move to another city for a job/etc.. and finally end up losing on it.
I think the author entirely misses the point by recommending extra payments to ease an early move. Those payments have little to do with anything. The equation I’m interested in is “What’s the bottom line?” There is much more to buying a home than just finances, but that seems to be all this article is about.
There are costs associated with buying and selling a house. Regardless of who pays loan costs or real estate agent costs, the total can be about 10% of the loan.
Then the buyer needs make a comparison of rents vs. monthly ownership costs (PITI, maintenance and repairs, etc.) for comparable units.
Next, there is a tax advantage to ownership via the mortgage interest deduction, but it’s not as big as many people believe since the standard deduction is half or more of a moderately priced home’s annual interest.
Finally, there is the belief in appreciation or depreciation. If you believe home prices will be stagnant or declining, there is almost no reason to buy a home. Owning in an appreciating market helps you stay with the market as well as giving a nice boost to the bottom line. But if you’re moving up, your new market was probably rising faster than your old one.
The bottom line varies per situation, but it’s simplistic to think there is a set number of years you should remain in a home.
Great discussion, I am from Canada. I as well have owned homes that half gone down -40+% at times, 1982, 1990, 1996 and here as well 2008 only 25% But back up 40% now )they go up and they go down, done right over time and make millions, remember the secret buy low. Many cycles here in the past thirty years however always up in time. Here there is no walking away which I am glad as those I held (tenant paid off mortgage) are now up over 300%+. Here one has a loan it is similar to the comments about Florida, they will hunt you down for any loss after foreclosure.
Real Estate is actually very simply, it goes up in price/ demand similar to the job numbers when they go up so does the economy. We have had a government party come in and spend, tax and heavy red tape whererby everytime they get in the result is similar the market crashed within two years about 35-40% however each time it only took two years after that party was removed for the jobs/economy to come back and the real estate to take off. I realize this crash was not caused by this senerio but it is now the problem. (Jobs, economy)
I am sure that Real Estate in USA will come back without a doubt, two years from November if you remove the current goverment and get jobs/economy going. You can play the game and make money or sit out. Where else can you take $15 or $20,000 and have a $300 or $400,000 investment, not stocks great leverage.
Rent or buy ?; I just bought a home in USA, it cheaper to own then rent , prices are so low we paid $400,000 here that home would be 2.2 million. If I could I would buy ten or as much as I possibly could.
The biggest thing that this poster doesn’t mention in much detail is the tax advantage of owning a home. Renting a home provides no tax advantage, whether as mortgage interest, property taxes, and qualified pmi reduce the tax burden sometimes by thousands per year. Generally speaking, points and prepaid interest also provide big tax advantages as well.
There’s a lot more home buying strategies than mentioned in this article that would be helpful for someone to look at.
#1 – Think about buying a 2-4 unit multifamily home. The extra rent provides you with additional income, and there are huge tax advantages like depreciation.
#2 – Buy a home that is “leading the market” in price, i.e. a foreclosure or short sale, preferably with as much cosmetic damage as possible. Even in this market, you can get a good equity position by purchasing a home and using a 203k loan to fix the place up. Depending on the condition of the property, you could be getting a discount of $2-$3 for every $1 of work to be done. A house needing an extra $20,000 worth of work (cosmetic/new kitchen &bath, etc) could give you a $40,000 – $60,000 discount.
Many commentors here seem to be expecting a lot from a blog post that was written 9 months? ago. Has the author even chimed in? People, you cannot cover every subtle point or one-off; this is a blog post not a thesis. Again, your mileage may vary.
For all the twits who actually think that those who did everything right (put 20% or more down on their mortgages, got a nice fixed low interest rate 30 yr mortgage, improved their homes & lots to the tune of tens of thousands or more, paid exorbitant property taxes), you are brain-addled! While we got run thru the meat grinder app process, the BANKS let others get homes right next to us, no $$ down, creative mortgages, no improvements to properties. Further, they allowed flippers & rental property owners in, which devalued the development. All this, & the property taxes skyrocketed in NO relationship to the actual values of the homes, which were downsliding, cuz our development paid for the crappy TOWN’s improvements & we suspect so did our SSA! Then, it filled up irreversiblly with HUD people, and illegal immigrants, now it is a dumping ground for them. So much for waiting 5 years for it to better itself???!
We never expected a huge return on this property; what we did expect was that OTHER people were scrutinized the same way we were. Didn’t happen. And while certain people got saved, others got thrown under the bus. And then Congress changed the rules so that unemployment no longer counted as income in the Obama plan, denying millions help. Curiously, the IRS says it counts! Also, the BANKS manipulated, dumped on, lied to millions of us under the Obama plan in order to deny us all help.
Stop acting like everybody was a high roller or a scammer. Some of us did EVERYTHING right & got hosed.
We never expected huge