In housing, the rent vs. own debate has been going on for years. I don’t come down too strongly on either side. I’m currently renting because 1) the area is very expensive, 2) we’re focusing on debt repayment, 3) we’re not planning to stay here long, and 4) we really don’t need more than our 1-bedroom apartment, even if I’d like a sewing room.
One of the things that’s pitched about housing is that it’s an investment. Before the bubble burst, people were buying houses for $150k and selling them for $400k a few years later.
As home prices settle down, many are realizing that in most economic climates you’re not going to get a return like that, and it’s ok. Even so, one still hears it being talked of as an investment. Over the long run, it’s true that housing prices have climbed.
This weekend, I was thinking about the unacknowledged role that interest plays in the equation. Suppose that I buy a house for $150k, pay it off over 15 years and then sell it at $225k. That’s a nice appreciation in an average area during an average (bubble-free) person and it looks like a good ROI. Now let’s use a mortgage calculator to figure out interest.
According to Bankrate’s calculator, with a 15-year mortgage at 6% interest, I would pay an additional $77841.34 in interest. Adding that on to the original $150,000 brings the total to a little over $227,000, $2000 more than I sold it for.
If the house served me well, then it’s great that I’m getting most of my money back (not including taxes, repairs, etc) and that it served as a home—something we all need, whether it’s rented or owned. Yet it’s not nearly as good-looking an investment now that I’ve thrown in the interest.
With almost all other investment, interest doesn’t factor into the equation. If you buy a stock at $5/share and sell at $15/share, you know just what you made (though some people don’t factor in fees when talking about it). When talking about a house in terms of investing, you have to use the amount you actually paid, rather than the selling price.
For this example, I just came up with a set of reasonable numbers to make the math easier and opted to have the house paid off, for simplicity’s sake. But the point isn’t to say “don’t buy a home that costs $150,000 at 6% interest” or “don’t buy a home.” What I encourage you to keep in mind is this:
A home (not a rental property, a home you live in) is primarily a home. There are good reasons to own it, just as there are good reasons not to. If you choose to think of it as an investment as well, keep in mind what you paid for it, not just the selling price.
The same is true for anything which you pay off with interest. Cars, electronics, anything that you pay more than cash for. Keep in mind that, if there’s interest, the price on the sticker isn’t the real price.