Houseonomics. housing prices. personal income Consumer price index. by Gary Smith and Margaret H. Smith.

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1 Houseonomics housing prices personal income Consumer price index by Gary Smith and Margaret H. Smith

2 Introduction 1 Introduction What is Houseonomics? Who s Looking Out for You? Our Stories Our Homes are Our Castles An Engine to Prosperity

3 Introduction 2 Introduction Part of the American Dream is to own your own home, whether it be a log cabin in Oregon, a farmhouse in Iowa, or a penthouse in Manhattan. Our homes are where we eat, sleep, play, love, laugh, and cry. Where we read books, grow tomatoes, and play cards. Where we can be alone or with our families. Where we can be ourselves. Our homes are also the biggest financial investment that most of us will ever make, and often the most profitable one too. But many people don t know how to answer financial questions that involve their homes. Is now a good time to buy a home? Isn t it really just a question of how expensive a home we can afford? Should we sell our home and rent until sanity returns to the housing market? Should we make a larger or smaller downpayment? Should we trade up or downsize? Should we use a real estate broker or try to do it ourselves? Should we choose a fixedrate or adjustable-rate mortgage? A 30-year or 15-year loan? Should we refinance now that interest rates have fallen? Should we pay off our mortgage early? Should we remodel the kitchen, add a bedroom, or do nothing at all? Is a vacation home worth it? What about a rental property? What can we do when we are retired and barely have enough money to buy food, but live in a home worth hundreds of thousands of dollars? If you don t ask these questions, perhaps you should. The largest investment we will ever make should be analyzed with at least as much care as our other investments. A series of bad decisions can turn a home into a financial and emotional disaster. We wrote this book to help you answer these questions and many more. We want to explain the principles that can help you make informed financial decisions about your home, so

4 Introduction 3 that you can not only enjoy your home but profit from it too. What is Houseonomics? We might have called this book Home Economics since house usually refers to a detached structure and home is a broader term that also includes apartments, condominiums, duplexes, and other residences. But home economics has traditionally been associated with making biscuits and sewing clothes, and this book is definitely not about baking and sewing. So we considered House Economics and thought it would be interesting to merge the words into Houseonomics, pronounced house-o-nomics. This book is about houses (and other homes too), and it is about many of the major economic decisions we make regarding our houses. This book is not encyclopedic. That would be tedious to write and boring to read. Instead, we have put together a collection of useful principles, handy tips, and memorable stories things that can really make a difference. Who s Looking Out for You? A lot of people earn income from other people s homes: the contractors who build and remodel homes, the real estate agents who bring together buyers and sellers; the bankers who lend money to home buyers; the fund managers who trade mortgages among themselves, the agents who sell homeowner insurance. They will offer you advice on building, remodeling, buying, selling, borrowing, refinancing, insuring. But their advice is suspect. Are their recommendations for your benefit or for theirs? We don t have any conflicts of interest. We won t make a dime if you buy a home, remodel your kitchen, or choose a 10-year mortgage. We will profit if you recommend this book to your friends. So that s our goal: to give you useful tools and insights that you can use to make informed decisions. If we can achieve that, you will spread the word. We want to look out for you, so that you will look out for us.

5 Introduction 4 Our Stories Financial decisions involve unfamiliar principles and are not trivial. Even professionals make mistakes. So what we can expect from amateurs who will only buy and sell a few homes in their lifetime? A lot! We wrote this book because we know that we can all learn to make reasonable financial decisions. It isn t that we cannot do it; it is that we have never been taught how to do it right. One way to learn how to do it right is to identify ways to do it wrong. This book identifies several pitfalls to be avoided. We tell lots of stories in this book to show you the kinds of housing decisions that people face and how they deal with them sometimes wisely, sometimes foolishly. All our stories are real, but the reason we tell these stories is not to embarrass anyone but to learn from their experiences. Thus, we ve changed the names and some unimportant details in the stories, and we sometimes combine two stories into one or split one story into two or three whatever we think will be most helpful to you. Our Homes are Our Castles Homes are very different from stocks, bonds, and most other investments in that you can t really enjoy your stocks and bonds much beyond watching their values fluctuate daily. You can enjoy your home. You can live in your home. You can paint the walls and rearrange the furniture. You can remodel your home. You can show off your home. People derive great pleasure from their homes, but they sometimes let their emotions overrule financial considerations. It can be difficult to make rational decisions about something that is so important to us. Some people don t buy homes because of a fear of commitment. Buying a home seems so permanent, like marrying or having children. Some are paralyzed by the idea that they might buy the wrong furniture or paint their home the wrong color. Other people get so excited about buying furniture that they fill their homes with so many tables, chairs, sofas, and cabinets

6 Introduction 5 that it is a challenge getting from one room to the next. Some are so excited about painting their walls that they create what look to be large-scale replicas of preschool art that is normally displayed on refrigerator doors. Others can t upgrade because it seems wasteful. Why do we need a more efficient water heater? The old one still works. There is nothing wrong with emotions. One very good reason for buying a home is the emotional pleasure you derive from being a homeowner. However, one of our goals is to help people think a little more rationally and a little less emotionally. An Engine to Prosperity Many people have heard that real estate can, like the stock market, be an engine to prosperity. After the dot-com crash in the stock market in , many people jumped into the real estate game. Some bought foreclosed properties cheaply. Some fixed up fixer-uppers. Some accumulated rental properties. If home prices are rising rapidly, it is pretty easy to make money by flipping homes buying homes and selling them a few months, weeks, or even days later for a quick profit. Oddly enough, while many people are familiar with the idea of making money by playing the real estate game, they don t think about the home they live in as an engine to prosperity. Everyone has to live somewhere, right? My home isn t a real investment like stocks and bonds. It is just where I live. No, your home is an incredibly important investment and can be a major engine for your prosperity. You don t have to flip homes in order to make money in real estate. All you have to do is buy a home to live in and make prudent, sensible financial decisions about your purchase, your mortgage, your remodeling. We aren t really interested in helping people make money by flipping homes they never live in. We very much want to help people who live in their own homes better understand how to

7 Introduction 6 turn their homes into an engine of prosperity. Houseonomics begins with a very fundamental question Is it still okay to own a home? Unlike other home-buying guides, Houseonomics doesn t tell dreamers that they can get rich overnight by flipping homes. Our intended audience is people thinking about buying a home to live in for many years. If you are part of this audience, you do not need to hear get-rich-quick schemes that are literally too good to be true. You do need to hear that it is still okay to own a home. We hear two kinds of concerns from homeowners and prospective home buyers. The first is, I ve been told that home prices are too high. This usually means that prices are higher than they used to be, which does not mean they are too high. In most cities, home prices were too low in the past and homes today are still very attractively priced and are likely to provide a doubledigit after-tax rate of return. The second concern is, Real estate is not a good investment where I live. For example, one person told us that his sister didn t think Indianapolis was a good place to buy a home because home prices there only go up 2-3 percent a year. In fact, Indianapolis home prices don t have to go up at all in order for Indianapolis to be a great place to be a homeowner. Both of these concerns tell us that home buyers are looking at the wrong metric how fast home prices are rising. They should be looking at something quite different. If they do, they will find that a home is still an attractive investment in most of the country. Let s get started.