04 June 2007

My home as an investment: solid returns after 2 years

It seems, every week, there are a lot of PF bloggers talking about renting vs. owning, and it's a subject I love to comment on. This morning I read Real Estate Isn't a Gimme on Money Musings, a post referencing a David Crook article on Yahoo! finance.

It all got me thinking about my house, how much has gone into it, and how much I'd get out of it if I sold right now. I decided then to make a spreadsheet, add up all my payments, maintenance costs, small improvement projects (that I wouldn't have done in an apartment), and my startup costs (closing costs and down payment) to see what kind of returns I've seen in my two years in the place. Here is a breakdown of what was included:

  • closing costs (less than 1% of loan value)
  • down payment (11% of home price)
  • monthly payments (20 year 5/1 ARM with initial 5.o% rate, plus taxes and insurance)
  • maintenance costs (only those that would not have been incurred in a rental)
  • improvement costs (landscaping, new hardware, painting, etc.)
  • Sale proceeds, assuming market value and a 6% realtor fee (which we won't be paying when we actually sell, but included for illustrative purposes)
The end result? We broke even, spending $100 more than we gained in the 2 years we have lived there. That may not sound good, but it is . . . and here's why. We lived in the house for those two years. That means we had no rent to pay. Between rent and renter's insurance, we had been paying about $820 per month to rent before we bought the house. (As an aside, this apartment was 500 sq ft smaller than our house and had no garage . . . so our living situation improved as well.)

When I factored in the monthly rental savings (assuming no increase in rent-- which is doubtful), I get a considerably different bottom line-- an internal rate of return of more than 44% annually. Forty-four percent. Now THAT is a return on investment.

The usual caveats apply-- your mileage may vary, your market may differ, etc. In fact, I'm certain that such a gain would not have been possible in larger markets because of the considerable cost difference between renting and owning. But in a market where they are relatively close, like mine, your returns from buying a home over renting can be tremendous. Ours certainly have been.

18 comments:

Rodrigo said...
This comment has been removed by a blog administrator.
Kevin said...

Hi Brad --

Just watch that ARM! I wrote a bit about why I love 15-year fixed mortgages here in a piece I did on my thoughts about housing. The short version is: buy a house, stay there for a long time, and use the shortest-term fixed-rate mortgage possible.

The other thing that jumps out to me from your analysis is that you must have spent wisely on your home since you are seeing such positive returns so very quickly. I'd say you didn't buy more house than you needed, you didn't pay too much, and you put down a good down payment.

Just stay put (unlike most Americans who sell every few years) and you'll see huge benefits!

Brad said...

I'm going to differ with you here, Kevin, but only circumstantially. I got the ARM because I knew we wouldn't be in the house for more than the 5 year fixed term of the mortgage. It's what you might call a "starter" home, and really just met our basic needs. We'll need more storage and living space, and really the location is not ideal either. We've already been keeping an eye on the market. In the meantime, the lower rate on the ARM has been saving me a good chunk of money every month.

The irony of it is this . . . as far as "returns" on this investment go, the longer you stay, the lower the annual returns are. There's a balancing act to be done between the costs of selling/closing/moving and the benefits of the leverage in the early stages of the mortgage. I think either play (long term or short term) can benefit you financially if you play it properly.

But yes . . . I do feel that we spent very wisely. My down payment wasn't huge (11%) but it was enough to keep closing costs under 1% of the mortgage and avoid PMI (no PMI at my credit union as long as you borrow less than 95%). My credit union has made the deal so much sweeter for me than would be at most lenders.

Kevin said...

No, I agree with you. If you KNOW you are only going to be there for 5 years, an ARM is the way to go.

I'm impressed that you were able to avoid the PMI. Credit Unions are great.

Brad said...

For loans, my credit union is terrific. My mortgage rate is just 5% and my auto loan rate is just 4.5%. Nobody else could touch those when I got the loans. As far as savings go, the internet banks are way ahead, so the credit union doesn't get to keep much of my savings around. But I will stay a member for as long as I will need a loan. It just makes sense!

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