It was not so long ago when one purchased a home with the rationale of not only having a roof over’s one head but also a vehicle to keep up with and even better beat inflation and have enjoy some added tax deduction benefits.
While the above value concept may have been eroding for some time:
- Assuming a residence can only increase in value (the Great Recession shattered that myth).
- Using equity in one’s residence as leverage (the House as Personal ATM).
- Limitations on the deductibility concerning real estate taxes.
As a broker I completely understand the desire for a home purchase especially when we see markets with low inventory and continued historically low-interest rates. Yet are Millennials setting themselves up for future challenges?
Yes most millennials went through the Great Recession and while experienced may not have been in the workforce or owned a residence. They may not have witnessed the job losses, foreclosures and the evaporation of paper wealth over that period. While the economy has come roaring back (even though I question the longevity of this bull market) as I always advise past performance is not indicative of future returns.
This is why a recent survey from The Bank of the West truly concerns me as follows: “The fact that nearly one in three millennials who already own their homes have dipped into their retirement nest eggs to finance their down payment is alarming. With careful financial planning, millennials can have it all – the dream home today, without compromising their retirement security tomorrow.” Ryan Bailey, Head of the Retail Banking Group at Bank of the West.
Basic reality; a mortgage is debt, plan and simple. While a long-term mortgage with a low monthly payment and a fixed interest rate may be attractive and definitely can be a hedge in an inflationary environment, it is still debt.
Yes the mortgage payment may in fact be less than comparable rent (yet did the buyer factor in the down-payment).
While there are tax advantages including mortgage interest and real estate tax deductions, are the benefits truly appreciable concerning one’s income? The debt to income ratio can be an eye-opener.
Unlike retirement investing which is usually liquid and easily revised depending on market conditions, a residence is truly illiquid and can incur major costs when trying to sell i.e. commissions, preparation to sell and so forth.
Home ownership can be a foundation for a lifetime. This is not necessarily a positive attribute. What happens if the homeowner decides to entertain an employment opportunity elsewhere? What if the market during that time is a buyer’s market? What if market rent would NOT cover the monthly PITI? In such scenarios one may be losing precious investment opportunities while covering the monthly payment coupled with an inflation reduced asset.
Mortgages do provide leverage and equity via one’s down-payment HOWEVER during the recession the terms negative equity, short-sales and foreclosures entered the vernacular and unfortunately we all have collective short-memories. Just last week I viewed a home on S. Monaco in the Southmoor neighborhood. While needing some cosmetic updates the home is in good condition and state of repair. Lowest priced home in the area concerning both asking and on a PSF basis. The asking $475,000 yet this is a short-sale with a loan balance of $515,000. Yes in the present sellers market a short-sale!
In addition to all of the above what concerns me locally here in Denver is the type and location of residences millennial’s are purchasing. I am seeing a proliferation of townhouse style residences as well as condos and similar attached multi-family construction in all the most desirable neighborhoods i.e. Golden Triangle, LoHi, Highlands, Sloans Lake and others. Concerning affordable, think again, many are $500K+ some pushing 7 figures. Yet I am seeing younger buyers purchasing with the assumption that 1) housing will continue to appreciate, 2) they plan to live in or potentially rent if they move or lifestyle change and 3) using monies allocated for retirement and/or using family capital to assist in purchase with the belief that inflation coupled with low mortgage loan rates is a winning combination.
While these new homes are beautiful and contemporary and perfect for the single or young DINK (dual-income no kids) couple; lifestyles change. Are these buyers considering children in the future? Are the local schools the caliber they desire for their offspring? Is there a risk of a glut in the area when the market adjusts course? How deep is the rental market for their unit style? Will rent cover their PITI?
I recently worked with a couple and this was their course concerning home ownership over the past decade and my forecast for their future:
- Years 1-4: First Purchase: Smaller Home in West Washington Park
- Years 4-8: Sold West Washington Park Home. Purchased in Stapleton as one child heading to elementary school and another on the way.
- Year 10: Sold out of Stapleton, purchased in Littleton, house triple the size of Denver and large lot, literally 1/2 the cost of anything within 8 miles of downtown, more attractive school system yet more challenging commute (both work in downtown) however easy access to light-rail and Santa Fe Drive.
- Year 10-15: Forecast – Will stay in Littleton until youngest goes off to college.
- Year 16: Forecast – Sell Littleton home, move to Cherry Creek North.
I am a firm believe one’s first home can be a great foundation for future success from lifestyle to investing. However I also feel one’s first home should not be over-extended i.e. live within one’s means, consider allocating some housing expenditures to the equities market to take advantage of compound interest and if planning so change jobs, careers, locations be realistic as if changes are happening in 3-5 years the potential loss of equity concerning one’s home can happen. Ask all the buyers in 2006 which sold between 2008 and 2013…..