If you're looking at $2k/month for a mortgage vs. $2k/month for an apartment, then the tax savings (at a hypothetical 33% tax rate) are MAYBE $8k per year.
This is one half of a percent of his net worth. ...which is to say, absolutely trivial.
Right now, the housing market is declining, and this individual may decide that he wants to relocate to a new area.
I am a homeowner. I am HAPPY to be a home owner.
However, I don't think the "buy instead of renting" advice makes a ton of sense for all people.
Where did he say mortgage? This guy has $2M in the bank.
The argument is that eliminating the rent expense ($2000/month or whatever) by spending $500k to buy a house outright is better than the tax-adjusted potential return on that $500k if invested.
In the long-term, you can expect the tax advantages of ownership to be priced into the housing market. This is one of the reasons (rampant speculation is another) price/rent ratios are so absurdly high. Fair value, without the tax benefits, would be a ratio of 9-12, given the costs of ownership and the illiquid nature of an owner's position. With the tax breaks, the fair value's higher, but it still doesn't make sense to buy at a P/R ratio of 20+, especially since rents are also likely to drop across much of the country.
In New York, price/rent ratios are above 40. A $2500/month apartment will sell for over a million. It only makes sense to buy at such a P/R ratio if you expect rents to skyrocket in the near future, and Manhattan rents are already starting to turn back.
Price/rent ratio almost certainly varies by neighborhood and general price level. What I meant to say, and should have said, is that price/rent ratios are mostly over 40. The specific data point that followed was one case of that.
The data points I actually know about are in the $2000-3000 range. One of my friends tried to buy his $2800/month apartment and got a quote around $1.5 million.
If I was in OP's position, the last thing I wanted would be carve up a hole in any part of the world and settle there for the rest of my life. Real estate is big investment; while investing in it may be an ok choice for a wage slave, it is not so for those who are eraching financial independence.
Most people want to have some sort of permanent address. If you can afford to buy a home outright, it's cheaper than paying the bank interest, or paying someone else to live in their property.
So I'm not sure why you'd object to this. Everyone needs shelter, and if you can afford to buy it, you save money.
Housing will not bottom until around 2012. Buying now is stupid any way you slice it. You are buying a depreciating asset for no good reason. Furthermore, municipalities all around the country are set to jack property taxes through the roof.
The owner of the representative property on the market for rent right now is losing money every month if they had a mortgage written in then last few years. Rents are cheap. Renters are still subsidized by bozos who think houses will appreciate, or are desperately trying to make their payments.
I'm not sure how applicable all this is to Canada, however, as their property market never went quite so insane. It will probably bottom sooner and after a shorter correction.
Manhattan is one of the biggest bubbles of all. I actually have some short positions betting on that. NYC real estate is going to crash over the next two years.
Buying a house is important for reasons that are not financial at all. It simply feels good to know that you have basic shelter with no overheads to pay.
Also, basic things like a house are protected in many circumstances under bankruptcy provisions. This means that owning at least a modest place of your own can give you a platform of security for going about your life that you cannot get any other way.
It may not make a lot of sense on an accountant's balance sheet, but the psychological benefits of it are wonderful. Buying a modest house would be one of the first things I would do in this situation. Especially in a buyer's market like there is now.
> 2. Consider buying a place to live outright. Saving rent or mortgage interest is better than earning the equivalent in interest because it's tax free.
In the US at least this isn't always the case. Most joint filers can deduct interest expense on mortgages up to $1MM in value.
If you look at the amount of interest you pay vs. the amount you can actually deduct and the total taxes you pay, it's far, far more expensive to have the mortgage with the tax credit than to simply own outright.
If you get $2,500 in reduced taxes and pay $10,000 in interest... :)
Your forgetting about the return you could be getting. If your mortgage is 6% and your making 7% then keeping a mortgage is a good idea. The other option is to get a 7 year interest only loan with zero or 3% down and walk away if you get under water. With 1+ million in the bank you can trash your credit ratting with little issue so let your bank take the risks.
PS: One great option is to get US gov bonds that get ~2% over inflation for 10+ years which makes them really safe. (https://www.bernstein.com/public/story.aspx?cid=466&nid=...) Ok, you are still taking a currency risk if your living outside the US but that's fairly safe.
Edit: Think of the first 1 million as 40k inflation adjusted every year for the rest of your life and only take risks when you need to until you have more money to live off of than you need. Risk is something you don't want and buying a house is risk.
With the interest only loan, wouldn't you need to make sure that you had non-recourse debt, or that the property was bought with a business entity that protected your 2 million in case of default? Are most mortgages (I'm specifically thinking in the U.S.) non-recourse in the sense that the property is the only collateral? Or is there still a way for the bank to come after your personal assets? I'd want to be 100% sure of the answers to these questions before betting on being able to walk away if the house loses value.
Most private mortgages in the USA use the house as the only collateral, however if you put less than 20% down most banks require some form of PMI to reduce their risk. This is a large part of why the housing bust has hit banks so hard, also many of the company's selling PMI went bust so the coverage became worthless.
If you invest and get 7% interest, after taxes you may get 1-2%. If you have to get 12%+ things look a lot different. Also, investing is risky, debt anchors you and keeps you from trying new things. At that point, you're gambling your house away. That behaviour is exactly what caused the Great Depression.
Government bonds are a terrible investment strategy. You may barely hold out against inflation (the next 5 years I vey much doubt that will happen) but there's better vehicles. The stock market, for all that it's fallen, historically speaking has never had any 10 year windows that it's shrunk. It will rebound.
If you're going to get a mortgage, it should be a 15yr, fixed-rate.
If your interest is tax deductible then you are only paying taxes on the 1% that's above the interest.
Government bonds are a hedge, I would still have lot's of stocks, but the goal is to avoid needing to sell stock when the market is down. Normal bonds have higher interest rate until inflation hits or the company goes bankrupt at which point you might not get your principle back.
Owning your home ties you to that location and selling property can be a major issue. If you are living off your savings then having a single investment with 30% of you money tied down is a huge risk. If your single and there is a 20% chance you will move in the next 10 years buying a house is a bad investment but feel free to run the numbers in your area including: tax, the high cost of buying and selling, the loss of liquidity, maintenance costs, appliances etc.
1+ million in the bank you can trash your credit ratting with little issue so let your bank take the risks
Actually, with $1 million in the bank, if you walk away from the mortgage, you bet your ass the bank will come after you to collect on what they can't get from the value of the home. It's going to be hard to declare bankruptcy when you have that kind of cash lying around.
In addition to 2: You may even want to consider buying an apartment building where other people live.
At least over here in europe that's a very lucrative option as long as you choose (i.e. can afford) an area that's likely to grow in popularity over the foreseeable future.
right now is just about the worst time in the last 3 decades to invest in real estate, everybody that I know (including people in Canada) that are heavily into real estate are trying to unload.
Wait until the market bottoms out, then maybe if a deal is just too good to pass up invest in some real estate. And only then if you have good indications that the market not only bottomed out but will rise in the foreseeable future.
right now is just about the worst time in the last 3 decades to invest in real estate
Why, prices are down after all?
Ofcourse one could wait for bottom out but if you judge your object by market value instead of by common sense then you can pretty much wait and gamble on lower prices for ever. An interesting object may just not be available anymore when the market shows indication for recovery...
It's amusing to see how you think that the bottom has already been reached.
From what I can see the stream of bad news is far from ending, there will be a lot more unemployment before this is over and that means that real estate prices - including those in Canada, which were, especially around the bigger cities somewhat inflated - are going to fall further.
The American auto industry is far from 'rescued', it remains to be seen if all of the big three are going to come through at all. This will have a tremendous impact in all the supplying industries, and quite a bit of that mess will trickle down to Canada. Another potential problem is that the US, Canada's biggest partner in trade has a tendency of using NAFTA to protect American interests in times of trouble, one more reason to be very careful where and when you invest your money.
If you are putting your own money where your advice is, in other words you are right now borrowing every penny you can get to sink it in the Canadian real estate market then I still have two properties there that are pretty much unsellable that might interest you.
Seriously, imho it's harsh and the bottom has not been reached by a long shot.
"everybody that I know (including people in Canada) that are heavily into real estate are trying to unload."
That would seem to me to be the textbook definition of "the right time to buy".
I still have two properties there that are pretty much unsellable
By unsellable you mean "priced too high"?
Just remember that somewhere down there is the perfect time to do the opposite of everyone else and make a killing. I wouldn't run out and invest 100% of your assets in real estate because you think you've found the magic moment, but in a diversified investment strategy, don't ignore it altogether.
A falling market is not the textbook definition of the right time to buy, it is the right time to hold off on buying.
No, I literally mean unsellable because the market in that area has dried up. I know the difference between 'priced too high' and 'unsellable'. It doesn't bother me much because I'm well-off enough that I don't actually need to sell, if the right buyer comes along it will move, until then it is no skin of my back.
Keep in mind that you are giving somebody else advice on what to do with their money here, if you want to spend your own cash on real estate then of course you are free to do so. Real estate agents are going out of business for the first time in years, these are not normal market conditions.
GM, Ford and Chrysler stock is down too, that does not mean you have to go out and rush to buy in because it is sure to rise again.
This recession thingy could be long, it could be short. Right now most of the smart money says it's going to be fairly long, and that we probably have not reached the bottom yet.
Anybody that claims otherwise is probably trying to sell you some stock they bought or a property they need to get rid of.
When there has been a good solid month or two without any mass lay-offs, talk of rescue packages and major businesses folding that would be a good time to start thinking about this, right now it is much too early.
Those who try to get in at the bottom invariably find that it wasn't the bottom yet. You could easily lose your shirt with an investment strategy like that.
Those who try to get in at the bottom invariably find that it wasn't the bottom yet.
Well, there is a different school of thought too:
Those who wait for the bottom to be hit will never be able to realize when it was hit. It's fairly easy to tell whether the market is in a downward spiral or is in boom. But I don't think anyone can ever tell if we have hit bottom unless we are already bouncing back. Same goes with the peak, you can't pinpoint it until we find ourselves in downward cycle.
>But I don't think anyone can ever tell if we have hit bottom unless we are already bouncing back.
Even then you can't tell, because it might just be a temporary thing on the way down. Look at the three or so fools' rallies in the Japanese stock market in the last decade or so, for example.
I am taking my own advice as to real estate with my own money. Buying land right now seems a good thing to do. GM stock not so much. GM could disappear tomorrow. The land will still be there even if it reduces in value even further.
I am not advocating any type of loan or leverage to "get into real estate". I just think that if you're looking to park any large amount of money, you shouldn't ignore outright owned real estate (especially the income generating variety) as part of the diversification strategy just because of the recent panic surrounding this one area.
Around here "unsellable" real estate actually means "real estate that can't be sold for enough to pay off the mortgage debt from the previously inflated prices." I've made several rational offers that were turned down for this reason. I've even heard that term tossed around by the very agent that refused my offer. "We just can't seem to sell anything these days, no one is buying! This stuff is just unsellable."
The people who lose the most shirts buy at the top when everything seems roses and sell at the bottom because "its not a good time to be in the market right now".
So, kudos to you, I hope that works well for you! :)
As for parking a large amount of money safely, that's a tough job and nothing to advise other people on unless you are aware of the risks and the potential fall-out from giving such advice.
I didn't realize that there was a different connotation to 'unsellable', apologies for that. The properties I was referring to were bought with cash, no bank involved so I'm not worried in the least. One is being lived in by an elderly couple, as long as they're alive they'll have shelter, it's a huge improvement from where they came from and even if the market was good I wouldn't sell it just because of that.
The other is technically 'up for sale', but with the market being in the dumps it hardly matters, just pay the property tax and stay put. It was bought to be lived in, not as a speculative object, and through circumstances I now find myself on the other end of the globe. Oh well :)
I agree with you that those who bought on speculation at the top of the market are the ones that will be hit hardest, in stock market terms, they're the sheep or the pigs (the joke goes something like this: There are three kinds of people active in the stockmarket, bears, they hope things will get worse, bulls, who hope things get better and pigs, they get slaughtered).
If you have a long term strategy and you have money that is completely unencumbered then it is possible to buy in a falling market, as you already mentioned there is intrinsic value in land. Even so, investing right now is basically saying that you know better than everybody else, and while I applaud you for doing it yourself I don't think you should tell people to follow you down that road unless you have a fairly solid guarantee that it will work out for them.
The OP will be in the possession of anywhere from 1M to 1.3M after taxes, if he just pays off his mortgage or buys a house to live in and very carefully salts away the rest he/she will be able to spend a small fraction of that when the market hits bottom, and then it will still be multiple years before it will pay out, if nothing unforeseen happens in the meantime.
I suspect parent meant "priced too high" which you are just thinking of as "market dried up". Here's an example: I'll give you, sight unseen, $1 for each of them (US or CA, your choice).
You don't want to take it? Of course not, because the price you want for it (your ask) is higher than my bid, and my bid is probably not even the best bid (someone who has seen it will almost certainly offer you $2).
"market dried up" is a shorthand for "the inside bid is fairly low", which is basically what noonespecial said and you disagreed with.
right now is just about the worst time in the last 3 decades to invest in real estate
Correction: right now is just about the worst time in the last 3 decades to already have invested in real estate.
Most of the smaller investors I know who have cash to spend instead of struggling for survival are snapping up some incredible bargains. Even though values are way down, the rental market is relatively strong, at least in the areas I've looked at. I have friends buying large fully-occupied cash-flowing apartment complexes in metro areas for forty cents on the dollar. The difficulty is mainly in financing the deals, not finding them.
> The difficulty is mainly in financing the deals, not finding them.
I suspect the reasoning for that is because the long term prospects of owning property for rent are not as rosy as they seems, once your renters start defaulting you have a real problem.
A slump in the housing market usually also depresses the rental market, but that lags behind quite a bit.
On a positive note, it may be preferable to own any kind of object with intrinsic value over cash.
Well, then lowball. Why not use the downturn to your advantage. Make incredibly low offers for anything you want. Make 100 offers and entertain those that seem okay or are willing to get out of it.
You have the time, the money and the inclination. Of 100 homes that are 800K, one of them might go for 400K cash money right?
Well, if they don't you still have the money. They've got a property they want to offload.
The problem with 2) is that it's really easy to get up-sold. It may be better to just take a year cooling-off period.
In general, if you are not in a rush to buy, you have a tremendous advantage over sellers. With $2M in the bank, the OP should feel no rush to buy a place.
The other thing is that if, for instance, you buy a house and haven't owned a house before, it's a significant lifestyle change.
That can be great -- it was for me, but there will be a lot of maintenance. I've been lucky enough to have parents in-law who have helped with (um ... done) all of my renovations.
I do sometimes pine for the apartment / condo + mattress + kickass computer lifestyle, but less and less now that my house is set up.
#2 might make sense for if you are in States, but it doesn't yet make sense in Canada. The real estate is going kaput and pretty rapidly, but the prices are nowhere near their low point .. they are more like only half way down.
Just to give you an idea why this matters. First, a decent house in Vancouver area would cost you from 800k and up. Something for 400k is going to be in the area that few people would like to live. Second, spending cash on a real-estate during recession periods is the biggest no-no. These are the money that are hard to get out, leave alone getting them out without substantial losses.
This is outstanding advice. Interest you gain is taxed while interest you owe is not. There's also risk involved. Debt at 8% costs you far more than investments at 15%.
Debt first, a nicely funded Roth IRA, 401k, 6 months or so of living expenses in a money-market account then park the rest in a mix of stock market funds with a nice 10+ year track history. This is THE time to buy stocks and real-estate.
It's not necessarily true that you want to pay of your mortgage.
Mortgage's have tax benefits, and if you have a mortgage at the prime rate, then your money is likely more valuable invested elsewhere, while you pay the mortgage.
1. Eliminate any outstanding debt. Mortgage, credit cards, car loans etc
2. Consider buying a place to live outright. Saving rent or mortgage interest is better than earning the equivalent in interest because it's tax free.
It's a very good time to have spare cash as there are a lot of bargains around. Take plenty of time and do your research.