I was playing golf this past weekend with a friend and his son-in-law. While on the golf course, it is common for people to ask me financial questions or ask for advice about their specific situation. This time was no different.
Early on in the round, my friend’s son-in-law asked, “Hey Grant, my home value has increased a lot. We purchased it in the low [500s] and a similar home down the street just sold for over $700,000. And it’s only been two years! Is it a good idea for me to sell the home at the current high value, rent, and then wait to buy again when the market goes back down?”
This is a VERY common question. And it’s a good question. If you are a homeowner, there is a good chance you have a large portion of your wealth tied up in your home’s equity. Should you sell your home so you can gain access to that wealth?
The answer to this question is twofold, and I plan to break it down for you. However, it is important for you to understand something about Stewardship and how we give financial advice: We rarely try to aggressively talk people out of or into various financial decisions–unless we absolutely know it is going to be lethal to their situation. Instead, we share with people the options, help them consider things they may not have considered, and reveal blind spots. And, when appropriate, we share what we would do if we were in their shoes. The truth is, there is rarely a perfectly right or perfectly wrong financial decision. It’s a matter of figuring out what option is best for you financially and emotionally.
With this particular individual, he mentioned that he has not owned the home for longer than two years. This is a big deal. If you sell real estate after owning a property for less than one year, you are subject to short term capital gains tax on the appreciation of the house. That means you would have to pay taxes on up to 37% of the “profit”. So, if this person bought for $500k and sells for $700k, that would be a $200k profit but a tax bill of $74,000. Yikes. Even if he has owned the property for longer than a year, he could still have long term capital gains.
More importantly are all the other financial considerations. It might seem like a good idea to rent, but rental rates per square foot are currently MUCH higher than mortgage payments per square foot. And, as we have mentioned before, most mortgage payments are fixed. Rental rates typically increase.
Which leads me to the most important financial consideration: financial uncertainty. It is unknown what rental rates will increase to. It is also unknown what home values will do. This question stems from a common mistake people make that what goes up must always go down. As Jake has written about many times, this is not necessarily true. We often suffer from recency bias and believe the housing market is sure to crash just because we remember one 15 years ago.
What will happen to rental rates?
What will happen to home values?
What will happen to mortgage rates?
All of this is unknown.
Ninety-three percent of people say they are “happier” as a homeowner when compared to a renter. Now, I am not here to say buying a home will buy you true happiness, but there are different emotions and mindsets involved when you own versus when you rent. In this conversation with this young man I asked him about his newly married wife and how she feels about moving. I asked him how she feels about renting and then moving again. I also asked about their dog and making sure they had a yard for him. I even asked about their commute. I talked about the uncertainty of not knowing if the landlord would renew their lease as they wait for the housing market to go down versus the known of being able to put roots down and count on their dwelling. These questions and emotions must be considered.
Although this question is rooted in a financial/investment option, it is also a personal decision about your home. And your personal home decisions are different from your investment decisions.
I didn’t tell him what to do, but I made him consider some things he was not thinking about and hopefully I have done the same for you.
To be honest, I would make more money off of him if I talked him into selling his home. My company could make a real estate commission off the sale, and make a new real estate and mortgage commission when he purchases the next home. But we don’t exist to make money. We are here to genuinely care about you by loving and serving you in your finances.
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