Don’t Buy a Home as an Investment
After Costs, It Typically Doesn’t Yield Much. Think of It as a Place to Live.
By JONATHAN CLEMENTS
Dec. 27, 2014 8:08 p.m. ET
This year, I sold one apartment and bought another. It was a reminder that the words “home” and “investment” don’t belong in the same sentence.
Don’t get me wrong: I’m all in favor of home ownership. The tax breaks are impressive. Home ownership forces us to save: With each mortgage payment, we whittle down the loan balance, so eventually we own a valuable asset free and clear. Most important, a home provides us with a place to live.
But what about the price appreciation? According to Freddie Mac , home prices have climbed just 3.7% a year over the past 30 years, not much above the 2.8% inflation rate. To make matters worse, this figure doesn’t reflect the hefty costs of buying, owning and selling a home. What if you include those? Consider one columnist’s sorry tale.
Carrying Costs
This is a topic I’ve tackled before, most notably in a June 2005 Wall Street Journal Sunday article entitled “How Houses Eat Money.” That column, which appeared a year before the real-estate bubble peaked, detailed how I had fared financially with the home I then owned in New Jersey.
In that article, I noted that the house might fetch $500,000, or triple my 1992 purchase price of $165,000. But I also noted that I had incurred a fistful of costs along the way.
What costs? Forget the $106,000 in interest I coughed up during the 12 years it took to pay off the mortgage. Arguably, that was the price I paid not to rent, plus the goal here is to look at price appreciation, regardless of whether a home buyer takes out a mortgage.
Also, forget routine maintenance expenses, home owners insurance at around $500 a year and the $9,000 in closing costs when I bought the house. In addition, we won’t put any value on the countless hours I sunk into the place.
Instead, to my purchase price, let’s add just two expenses: home improvements and property taxes. Admittedly, I spent a considerable sum fixing up a rundown home and I was living in a state notorious for its high property taxes.
Over the 20 years I owned the New Jersey home, I calculate that I spent $183,000 on home improvements and $90,000 on property taxes. (The latter number was actually larger, but I gave it a 25% haircut because property taxes can be deducted on your federal income-tax return.) Add that to the purchase price and my total cost was $438,000.
Meanwhile, by the time I unloaded the place in 2012, the property market was in a deep slump—and I ended up accepting an offer of $409,000. Sound grim? It gets worse. After a 5% real-estate broker’s commission, transfer taxes and other costs, I walked away with $377,000.
Of course, it was a terrible time to sell a home, but a great time to be a buyer. A year earlier, I purchased an apartment in New York City for $570,000, plus $7,000 for title insurance, attorney fees and other costs. I sold that apartment last month for $800,000, so I could buy a place with more space just outside the city.
That profit more than offset the loss on the New Jersey home, though maybe not as much as readers might think. Why not? By the time I paid a 4% brokerage commission, transfer taxes and other expenses, I pocketed a little over $750,000.
Three Lessons
If I subtract my New Jersey loss from my New York profit, I made just $5,000 a year over my 22 years of home ownership—and the number would be far smaller if I hadn’t excluded a bunch of costs. What’s the implication? Three lessons stand out:
Over the long run, you’re unlikely to make much from home-price appreciation, especially once you figure in costs. Got friends who boast that their home has been a great investment? Quiz them about how much they forked over for closing costs, insurance, property taxes, home improvements and more.
Real estate is a horribly expensive asset to buy, and especially to sell. Costs took 8% of the proceeds from my New Jersey house and 6% from my New York apartment.
The big gain from owning a home is getting to live there. Think about how much you’d collect if you rented out your home. You might pull in an annual sum equal to 6% or 7% of your home’s value—far more than you’re likely to make each year from price appreciation.
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