Three Reasons to Buy a House
By: David Ferrara
Tags: Housing, Economy, Real Estate, Taxes, Personal Finance

Three reasons to buy

1) Limited Supply

Money flows from one asset to another in this economy. If you ever watch Bloomberg or CNBC or any of the “money” networks, you hear about money is moving towards large-cap stocks, or small-cap stocks, or bonds… commodities, gold, silver, real estate, or even just leaving their money in cash.

The big guys, the hedge funds and private equities, etc., have teams of people trying to figure out which asset class is about to take off, which is about to collapse, or simply in which can they eke out another percent or two over the other asset classes over the next year.

In this flow of money, you will notice one thing in particular. The reason that whenever the worries about the future of the economy get to a particular point, gold prices go up (as well as bitcoin these days). This is simply because there is a finite supply of gold (and bitcoin).

Well, Real Estate is the same way. God isn’t creating more land. Supply is finite. And if you have ever looked at a population growth chart over the last 100 years, you can see demand has been exploding. Population growth will slow down and reverse eventually but not for at least a hundred years or so by all projections.

This doesn’t mean that real estate doesn’t go through cycles where prices rise and fall. It doesn’t mean that certain locations don’t rise and fall faster than others. But it does mean over a long enough span of time; prices will keep going up.

2) Your life is settled (at least for a while)

i.e., you won’t have to sell in a couple of years.

The problem you probably thought about above is, well, what if I have to sell in three or four years to move for a job, family, military posting, or just because I’m young and want to experience new places, things, etc.

Well, yes, if you are planning on moving soon, then there is the chance that you will have bought at a peak and prices will drop, which is not a smart move.

So, make sure you believe you will be in your current location for at least five or so years.

Experts will tell you that the breakeven point where it makes more sense to buy vs. rent is three years. But there are assumptions baked into that calculation that doesn’t include a real estate crash. They assume rent is increasing by a certain percentage; housing prices are increasing by a certain percentage, your closing costs were a certain percentage, and so on. They don’t assume housing will crash 20–30% next year.

So, there is no hard answer here, but I would say make sure you plan to stay at least five years.

Pro-tip — are you currently living in your hometown? Do you have family, friends, parents, etc., around you? Maybe consider buying anyway, even if you are not so certain where you will be in a few years.

You can turn your property into a rental when you leave. You will be returning to your home frequently (or at least occasionally), so you can check in on your property, and when you are not there, you have support from family and friends to help you out.

3) Leverage

Ok, this is the best reason of all to buy. Let’s say you have $25K and are deciding whether to put that into a down payment or put it into stocks.

If you put it into stocks and say buy the S&P 500, which goes up 10% next year. You’ve made a nice $2.5K—a nice 10% return.

If you put down 5% on a $500K house and real estate prices, go up 10% next year. You’ve made a much better return on your money. $50K on a $25K investment or a 200% return.

That is called leverage. Using debt to increase your purchasing power, allowing for greater returns.

Three reasons not to

1) The mortgage interest rate deduction

What do you say? Surely, this should be in the three reasons above?

Well, not after the 2017 Tax Cuts and Jobs Act (TCAJ) was passed. This was the bill that doubled the standard deduction as well as placed a cap on the mortgage interest deduction, so it only applies to your mortgage up to $750K.

I’m sure you’ve heard of the mortgage interest deduction. And you probably have heard advice if you have been thinking about buying a house for any time how buying a house has great tax advantages.

Unfortunately, that is “had” great tax advantages. It no longer does.

So, here’s the thing. A taxpayer has to choose between itemizing and taking the standard deduction, which doubled from $6,350 in 2017 to $12,000 for a single taxpayer. And it will be $12,550 in 2021. This made it, so most people no longer itemize.

To understand this. If you purchased a $400K house with a 3.5% interest rate, you would pay $13,183.76 in interest in the first year of the mortgage. You can either deduct this in your itemized deductions. Or take the standard deduction in 2021 of $12,550.

So, in this example, you will be able to reduce your income, on which you pay taxes, by $634 by itemizing ($13,183.76 — $12,550).

Which, let’s say you are in the 24% tax bracket would save you $152 on your taxes in year one. But hold on, because by year four, this benefit is completely gone as your mortgage interest in year four is down to $12,377.62. And actually, it might be gone by year two because the standard deduction goes up every year.

A couple of caveats. If you have other itemized deductions such as medical or charitable deductions, it may become more of a benefit to itemize. And of course, if interest rates go up and your mortgage interest rate is 4 or 4.5%, it may become more of a benefit.

But then, if you are married and file jointly… well, then the standard deduction is doubled to $25,100, so all that benefit goes away unless you buy an $800K house. Actually, just kidding. That is where the $750K cap on your mortgage comes in.

Tax Summary

Here’s a summary for those of you that just glazed over due to all the tax talk.

Taxpayers in 2017 and prior used to itemize their taxes primarily due to the ability to take the mortgage interest deduction. However, it is estimated that those that itemized their taxes went from 26% to 10% from 2017 to 2018 due to the increased standard deduction. So, again to summarize, the tax advantages of owning a home went away for most people due to the 2017 TCAJ Act.

2) Flexibility

I already discussed this above; this is just the other side.

If you are young, are figuring out how to move cities, or are planning on traveling the world soon. Or just don’t want to have burdens and responsibilities tying you down . Or just want to be able to up and move on a whim to take a better job and keep moving up that ladder, or because that girl or guy you just met lives on the other coast. Well, then this probably isn’t the time to buy.

3) Leverage

But this is an advantage you said above, right? Well, the thing about leverage is it can work for you or against you.

If you made that same $500K purchase in the example above in 2007 and by 2010, the market was down 30%… or god forbid you bought in Vegas or Phoenix in early 2008, and it is now down 50% or more. Well, then you just lost $150K or $250K in the value of your home.

But here’s the thing. Remember, in the first point above, where land is a finite supply. Well, even those markets have returned to the pre-housing collapse levels about five years ago. So, if you are planning on holding that property for the long term, then you mitigate that risk.

But of course, it would have been so much better to put $500K into a house in 2010 vs. 2007. In fact, you would be several $100K ahead now if you bought in 2010. Just a thought for the next time you see an asset collapse.