The thought of buying your first house (condo, apartment) can be exciting. It’s most likely the largest purchase you will have ever made and it’s something that you can call your own. It’s definitely a major step and you may even get that cool feeling of “yes, I’ve finally made it!”
With such a major decision also comes great responsibility (no, this isn’t a reference to Spider-Man)… and it’s important to take some time to think about and plan for this monumental purchase. Here a 3 myths about buying your first home.
Buying a home is always a good investment: Although the general thought out there is that you should buy a home because it’s a good investment, this isn’t always true. Many people approach this statement with false pretenses. For example, you might hear someone share this example:
My grandfather purchased his home in 1975 for $50,000 and then sold it in 2005 for $300,000. He made $250,000 on the sale… that was a great investment!
Sure, the price did increase 500%, but let’s take a closer look. The price increase over that time does not take into account several major factors with regard to the cost of home ownership. For one thing, the annual compound return based on the price alone is only 6.15% per year. Aside from that, there is also inflation (estimated at just under 4.5% for that period), which reduces that return down to an approximate real return of 2% (and that is rounded up to the nearest %). Then you must factor in mortgage interest, insurance and taxes paid… and don’t forget the cost of upkeep (fixing water heaters, pipes, roof, windows, floors, etc.) over that period.
The end result is that the example above, a purchase that looks like a home run from the outside, may have actually resulted in a loss. This certainly isn’t always the case, but it’s important to go in with eyes wide open.
I will always receive an extra tax deduction for my mortgage interest: Yes, it is true that mortgage interest is deductible, but it may not make sense for you to take this deduction. (Before I continue, I want to be clear that I am not a tax expert, so please consult with your accountant or CPA before making any decisions.) For you to actually take the mortgage interest deduction, you must itemize your deductions rather than take the standard deduction. In many cases, the standard deduction is higher than your itemized deductions (see Taxes: Mortgage Interest vs Standard Deduction article for more info), which means that it would not make much sense to go the “itemized” route.
I should always pay down my mortgage as quickly as possible: This mantra comes from years of high interest rates in the 1980s. At that time, people had average rates in double digits. Even then, though, it may not have made sense to pay down your mortgage quickly. People tend to look at the interest they pay as a stand-alone number and then panic. Clearly, you don’t want to be paying $95,000 in interest over the life of your loan, but it’s not as simple as that. You should really take a look at the opportunity cost of making such a decision. In other words, rather than paying extra money toward your mortgage, where else could you use that money? There are certainly no guarantees, but it may make sense to invest that extra money in the stock market for the long term, start your own business, save to purchase a rental property… and the list goes on. In this case, it’s all about rate of return. Let your money work for you, since you work so hard for it. Think “where can I get the biggest return on my hard earned cash.”
The bottom line is that there is no one right answer for any of these situations. My advice to you when beginning to plan for your first home purchase is to start early. Do your research, talk to experts (a mortgage professional, a realtor and a financial planner would be the first three people on my list). Gain the knowledge you need to make an intelligent decision for you and your family. And do it for the right reasons… not because that’s what society says is right or because uncle Bob said that’s the only way to go.
Always remind yourself that you have the benefit of choice. So, chose wisely! And for more reading, check out this NY Times article on the cost of home ownership: Estimating Expenses Before Buying Your First Home.