"Buying too much property can destroy a family's freedom and causes hardships by their unintended loss of economic freedom," Diesslin adds.
Besides that, many advisors say that calling homes an investment at all can be misleading. In fact, houses are illiquid, come with many hidden costs and offer no diversification. The money you might be saving on rent could go into a bucket of more variegated investments that are actually growing faster than a home's value (sometimes even when the savings imputed by not paying rent are factored in). Homeowners generally had 68% or so of their net worth tied up in their residence in 2007, according to the Federal Reserve, a fact brought home painfully when the housing bubble burst.
In a paper called Is Buying A Home Or Renting Right For You? professor Moshe Milevsky tackles the conventional wisdom and says many homeowners should have rented instead. "I think a large proportion of individuals within the population should not own a house," he says flatly, "or they should at least push off the purchase as long as possible and instead rent. Anyone that followed this advice in the United States over the last few years, possibly the last few decades, would be much better off today."
With a demure apology for sounding preachy, he says housing isn't necessarily a bad investment. It's just that so much of the wealth of young people is tied up in human capital-in their skills and future earnings potential. This is already an illiquid, undiversified asset. "It therefore makes little sense to invest yet another substantial amount of total wealth in yet another illiquid and nondiversifiable item like a house."
Milevsky imagines paying 10% down on a $500,000 house. If you shift $50,000 from your assets to the house, you have $450,000 in assets on the left side of your balance sheet in assets and $450,000 on the right side in liability. "The equity on your personal balance sheet has not changed," he emphasizes. You might reduce that liability to $400,000 over five years and have $100,000 in equity. But if the house price has dropped 20%, you still have $400,000 on your asset side and liability side and you still have the same equity. Meanwhile, "the $50,000 you originally invested in the house is gone and all the payments you have made in the last five years could essentially be considered rent. You are no further ahead now, financially, than you were five years ago. All you did was consume housing."
"If you look at the period from the early '30s to the early '50s, you were better off renting by and large," says Diesslin. "It just was because we went through a deflationary cycle where real estate lost value for a long time and housing didn't really start to appreciate in truth until the '60s. And you have to remember there's a big tax aspect to that." If inflation were brought into the equation, he says, and the deduction was against a 70% tax bracket, it would have huge implications and suggest buying is better. But we're now currently in a deflationary cycle with a 35% tax bracket.
Real estate salespeople say that because interest rates are so low, now is the time to buy. However, an increase in rates later could inversely harm prices, which again makes equity disappear. Also, even though housing prices have slumped, so has household income, which means the ratio of income to housing costs is not necessarily getting better.
"My opinion is that people should never stretch to buy a home," says Kathleen Campbell at Campbell Financial Partners in Fort Myers in Southwest Florida, one of the areas hardest hit by the downturn (and winning dubious distinction as one of the top cities for foreclosures). "I feel that the first responsibility as far as your finances go is to make sure that you have adequate savings and that includes both emergency savings and ongoing retirement savings. If you have little or more emergency savings and/or find yourself unable to contribute what I call a reasonable amount to some sort of retirement savings, whether that's a 401(k) or IRA or whatever, then you need to think hard about whether you're really going to be able to afford a home."
Campbell has lots of horror stories. She says she knows somebody who bought a home in her area for $700,000 at the top of the market with a $600,000 mortgage and recently had to short sell it for $325,000 with a mortgage balance of $550,000. Another client is a woman whose husband died in the middle of the housing crisis. Though they hadn't overextended themselves, she was stuck with a home she was underwater on when there was no survivor benefit on his pension and she couldn't afford to keep it. The bank had to foreclose. "Some life insurance would have been real helpful in that circumstance," Campbell says. "But it's an example of what can happen in the worst of circumstances when you own instead of rent. Rent is not all bad."
She says people should look to buy the least expensive home that suits their needs. "How many foreclosures have occurred because someone making $50,000 per year bought a $300,000 home during the mortgage heyday, just because someone told them that's what they would qualify for?"