WW3: Live in a Bus

Ordinarily, nobody in their right mind would willingly go out and buy something that was more than five times his or her yearly income. Especially if they didn't even have enough cash on hand to survive a job loss or other personal crisis. But that is what people have done. Barraged by ads screaming "lowest mortgage rates since the '60's," people have rushed out and bought homes whether they could afford it or not. And they've done it gladly, even though they know they can never hope to pay it back. Instead, they are counting on housing prices to continue to rise...counting on the next "fool" to come along and pay the inflated price. What they didn't count on was that housing prices couldn't rise forever.

The mistaken premise in the whole scheme is that in the modern economy, a house isn't just a house anymore--it's an "investment." And, as our new national mantra seems to be "you've got to spend money to make money," people have figured that buying houses in a rising market is a sure bet. The richer people have been chasing bigger, more beautiful homes because low payments make them seem affordable (and/or buying properties and "flipping" them), while the poorer people have been persuaded that if they don't pull out all the stops to buy a house now, they'll be priced out of the market. What hasn't been looked at is that owning a house carries costs--and those costs only increase along with risk when the hapless homeowner begins to see himself as a fledgling entrepreneur.

This story is one that I've lived, as my father chased one real estate boom after another. He lost his shirt in '91 and had to declare bankruptcy, which forced the course of my life to where it is today. I never forgot--and resolved not to get in over my head when it came to real estate.

This is not to say that there are no benefits to owning a home. Provided you can maintain the home and keep ahead of the loan while building equity, a home is one of the few investments we "little people" can make that stand to dramatically increase our net worth. Homes are assets that typically appreciate in value over time, fattening the bottom line. In the right market, a superb sale can bring a capital gains windfall for the homeowner. In the meantime, private homes offer the maximum in status, satisfaction, privacy, sense of control, and dignity over any other form of housing. Home ownership is also touted for being an excellent tax shelter, whether through the mortgage interest deduction alone, or as a partial business expense deduction. However, there is a right way and a wrong way to approach it.

The costs of home ownership are hardly ever considered when eager buyers begin to scan the local MLS. They include substantial front-end costs: loan fees and points ("closing costs"), the cost of inspection and/or appraisals, a down payment or "earnest money," and private mortgage insurance. While living in the home the owners are responsible for maintenance and repair, property taxes and insurance, improvements to the home, and repair and replacement of major appliances (the furnace, for instance). All of this is on top of the monthly mortgage payment and all utilities for the home--a shock to the former apartment dweller.

Houses cost out the back end as well. An owner seeking to sell must ensure that he will earn enough off the sale of the home to cover the remainder of the mortgage as well as steep realtor fees, "spiffing up" the house for market, and last-minute repairs. And while most homeowners don't usually consider it, selling a house only makes sense if one can get back all the money one has put into the home already, including what it cost to buy the home plus all the major improvements. I think most homeowners would be shocked to realize that, even if they could get all their money back out (including some free and clear capital gain), the inflation accompanying the boom has eroded the value of what remains. In 2001, the buck bought 25% more than it does today. Take that out of your equity, and the over-enthusiasm for home ownership seems misplaced.

But despite the high cost, people still buy houses. Is there any way to win? There is--but the hitch is that it takes long-term planning. If you bought a subprime ARM in 2005, you can forget winning in the short term. Your might just have to walk away. Others might be able to "start over" only after getting out from under their current mortgages. If you're in an apartment, stay tuned and take notes. The fact is that most homeowners do not intend to really "own" the home. Most people plan on selling sooner or later and netting a profit. Hoping against that event, you should take care of your house, but don't just throw money at it. Instead, work at paying off non-mortgage debt as discussed in my first post. This frees up money to pay for needed improvements and/or a 6 month emergency savings fund, depending on which need is more urgent (some people are in such bad loans that getting out is more important than saving money). Once you've set that part in motion, you can plan your next move with precision. Ask yourself these questions:

Can we move to a less expensive region? You'll want to consider overall income/cost of living ratio and the availability of jobs, not just home prices.

Can we live in a smaller and/or older house? May involve safety issues...and neighborhoods can be iffy--research carefully.

Can we live in the house long-term? Moving every few years is an enormous strain financially, physically, and emotionally--even more so if you buy houses everywhere you go.

Can we pay off the property? Early? This is the best way to ensure affordable housing, despite property taxes. You'll also save a fortune in interest if you pre-pay.

Can we live in unconventional housing and/or buy in an unconventional way? Consider auctions, foreclosures, or buying land and building your own house.

Can we be completely debt free before we buy again? The best scenario if you have to carry a mortgage--better yet, save up a substantial down payment, at least 20%.

Once you have the answers to these questions, you can be honest with yourself about what you can and cannot afford. If you can do any or all of the above, you can minimize some costs imposed by home ownership. But why not go for the gold? The bank's gold, that is. They make big money on millions of "owners" faithfully paying principal and interest every month. What they aren't telling us is that the ratio that makes up the payment is heavily skewed toward interest for the first 2/3 of the life of your loan! It's only after you've been paying on the thing for 20 years that you finally begin to pay more in principal than interest--if you follow the bank's payment schedule. That's why pre-paying is such a boon. Your first year of principal payments probably amounts to a little over one month's mortgage payment. Pay 12 extra principal payments a year, and you've cut the bank out of a year's worth of interest. But that isn't all you can do. You should have as your goal the elimination of the mortgage payment itself.

Why? It's wasted money, for the most part. If you don't have the cash on hand to buy a house outright, you are stuck paying interest to some bank for a number of years, no matter how aggressively you prepay. Add in all the other attendant costs of owning a home, and it's owning, not renting, that seems to be "throwing away money." Better to rent an apartment or house, take advantage of not being responsible for the whole kit and caboodle, and pile up your cash. Here is where my zany title comes in. Some people take this idea so far as to live in VERY unconventional housing. I've heard of people living "off the grid" on forest land (yes, even a family that lives in a bus). My favorite knitting writer, Elizabeth Zimmermann, lived with her husband in a one-room schoolhouse in Wisconsin. An old boyfriend of mine was enamored of yurts, and I even read a news story once about a young single guy who was homeless on purpose (he pitched a tent every night and took showers at a gym).

When I think of my own family, I consider the fact that we've always been trailer people. It wasn't until the post-WWII period that we experienced any kind of prosperity, and even that is draining away. My uncle lives in a trailer. My dad and stepmom lived in an RV for over two years. But there's no shame in living in a trailer park if you have no debt and can meet your obligations every month while building up your savings. It only seems unpleasant because we've been caught up in the illusion of a higher standard of living--financed by debt.

If we are lucky enough to sell our current house and get out from under this mortgage, my goal is to never carry a mortgage again. Think about it. In the pie chart of where all your money goes, after taxes the mortgage is the biggest single expense in a homeowner's budget. Put another way, you could survive on a lot lower income if you didn't have to pay mortgage or rent. Hence, the basic home ownership survival plan is: rent a house or apartment as cheaply as you can. Practice your savings strategy and/or sit on your investments until you can afford to buy "something" in cash, even if it isn't the ideal house. The point is, it's paid for. As long as you have clear title, it's liveable, and not a money pit, you can always live in it, improve it, borrow against it, and eventually sell it when the market gets better. Then you go out and look for a better one. If you're sick of moving or are already an apartment dweller, consider buying a plot of land, and building your home in stages that you control and that you can afford. Lately I've settled on what is a soon-to-be glutted foreclosure market for our next real estate purchase.

This plan may not appeal to everyone. The big, expensive, brand-new home on the billboard will always sing a siren song to American hearts. But it is the safest way. If you've eliminated your mortgage payment, you've increased your income by 1/3. If the house gets you down at times, you can afford a trip to Rome. But jumping from one house to another, or worse, refinancing the same house over and over, is madness. You're throwing away money on interest and bank fees while decreasing your equity with every move. You may as well light your money on fire.

To sum up, you have to look at the total picture and take control. Just because "everyone else" is buying a house doesn't mean you should. Instead of "buying a house," plan on owning a house.