Home ownership has been the "American Dream" for decades. And for many, it's that defining moment where you officially feel like a successful adult.
Because of this standard, almost every week someone tells me that they want to buy a home. And the first thing I ask them is, "Why?"
I rarely get a good answer to this question. The decision to buy a home is usually motivated by hitting a certain savings goal or reaching an age where owning property feels like the next step. But even though buying a home seems like the responsible, adult thing to do with your savings, it's a terrible reason to make the biggest purchase of your life. And in reality, buying a home is often a very irresponsible choice.
In terms of growing your wealth, home ownership is actually a pretty lousy investment. If you look at historical returns, a portfolio of stocks and bonds typically outperforms home ownership in most housing markets.
Since you can find better investments elsewhere, the main reason you should buy a home is to improve the quality of your life.
If having a permanent residence in a great community or a yard that your kids and/or fur babies can play in is top priority, buying a home can be well worth the price tag. But if any of the 3 scenarios below apply to you, then it's very likely that home ownership will make your life a lot more stressful than blissful.
1. You'll be house poor
Just because you can get approved for a mortgage doesn't mean you can comfortably afford it.
While FHA loans that only require 3.5% down make it easy to cover the down payment, they often result in high monthly mortgage payments and the added expense of private mortgage insurance (PMI).
That results in homeowners who are house poor. They spend so much money on their home each month that they can't afford to do the other things they want to be doing like traveling, having a social life, or even saving for retirement.
Your monthly housing costs shouldn't exceed 28% of your gross income. When my clients are getting ready to buy a home, I show them what their monthly household budget will look like after their purchase. Then I have them live on that budget for a month so they can see how it feels. Afterward, I'll ask if that's a budget they're comfortable with locking in for the next 30 years.
Often times, this exercise results in the client deciding to save more of a down payment or to buy a home at a lower price point than they were initially considering.
2. Flexibility is important
If you can't commit to staying in the home for at least 5 years, then think twice before buying.
Imagine if you got the job opportunity of your dreams or met the love of your life—but they were in another city. If you were renting, you could seize the opportunity at a very minimal cost by subletting your apartment or even breaking your lease.
But if you own a home, following your heart to another city will likely come with a hefty price tag. From a financial standpoint, when you buy a home you are hoping that your home value appreciates and that you build equity. It usually takes a significant amount of time for both of these things to happen.
So when you sell just a couple of years after you buy, all of the closing costs that you paid up front usually outweigh any appreciation that's taken place. And you haven't built much equity because your mortgage payments in the first few years are mostly interest and not principal.
3. You don't have an emergency fund
It's the middle of winter and your heater breaks. I hope you have an extra $6,000 to $14,000 lying around. Because you are responsible for fixing it.
Pipes burst and roofs leak. The last thing you want is to have serious damage to your home because you didn't fix something quickly enough.
As a homeowner, you should have an Emergency Fund with enough cash to cover at least 6 months of expenses. And that's on top of your down payment.
Most people go running to their local realtor's office ready to buy the moment they have enough money saved for the down payment. But really, they should be saving a lot more than that. Otherwise, owning a home is going to be extremely stressful because you'll always be 1 random repair away from credit card debt.
Investing involves risk, including risk of loss.
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Fidelity Brokerage Services LLC, Member NYSE, SIPC, 900 Salem Street, Smithfield, RI 02917