I am not buying a flowery pillowcase of emotions or a future of warm memories. I am conducting a business transaction to purchase a piece of land and an assembled collection of construction materials.
Well, we did it. We bought a house.
(A condo, really, but these days many houses are covenant-controlled to the point where there isn’t much difference.)
It’s 780 square feet, making it larger than our previous apartment by about a hundred square feet. The condo is also laid out more intelligently, so it feels substantially larger. It needed a few easy upgrades, like new bathroom tile (solved by way of Home Depot peel-and-stick vinyl) and a fresh coat of paint, but otherwise it was in excellent, ready-to-live-in condition when we moved in.
But wait, you say. Tony, weren’t you the one telling us about how homeownership is a prison? What made you change your mind?
Don’t worry. Stories like this delightfully obnoxious one of a 22-year-old buying a $250,000 Manhattan apartment still make me cringe. I stand by what I said in that article 100%.
Homeownership is wrong in the vast majority of scenarios, for the vast majority of people.
That might sound harsh, but it does mean that there are certain narrow circumstances when homeownership makes sense. I think it did in our case. You can be the judge.
Here’s an overview of the facts:
We’re staying in the area for the next 4-5 years. My fiancee began a PhD program this past year (one where she is paid to attend, following our rules for living on a budget). The duration of the program will take us through 2018–meaning we’re tied to the area for another five years.
We began to search for a property that fulfilled a very specific list of criteria.
Most homeowners short-change themselves by only keeping their property for five years–just enough time to pay a bunch of interest and lose money on 6% closing and brokers fees. We knew that if we needed to move in five years, the property would have to be either an excellent rental unit (check) or a substantial value versus the expected rent we would have paid over the same period (check).
Things I Did Differently When I Bought House
1. Buying a House Wasn’t a “Must” for Me
Many of my peers grew up in gigantic 3-bedroom homes in the suburbs. Homeownership is a necessary step on the path to adulthood for them.
I never had that mindset. I grew up in a cozy (read: small) 2-bedroom apartment with my parents and my sister. I didn’t have my own room until my sister moved out to attend college. As an immigrant family (my parents were political refugees), this was more than enough for my parents. Consequently, I never grew up with a burning need to live in a giant house in the suburbs.
When it came time to negotiate with the seller, this meant that I had no deep psychological need to make the deal happen unless both my heart and my head were in agreement. I could divorce the emotional aspect of the purchase pretty easily because I didn’t have much baggage to begin with.
But what if you have that background of living in a big house growing up? How do you mitigate the effect this has when it comes time to buy?
Trent at The Simple Dollar has a great list of thoughts to keep in mind:
Don’t buy a home because that’s what you’ve been told you’re “supposed” to do.
Don’t buy a home because that’s what you think you’re “supposed” to do.
Don’t buy a home because it’s a good investment for the future. It’s really not all that great of an investment.
Don’t buy a home because you might get married and have kids someday and you need the space for this hypothetical future.
Don’t buy a home because you think it will lead you to some sort of idealized suburban life. A home won’t change who you are.
Don’t buy a home because you’re trying to “keep up” with someone in your life. It’ll make you fall further behind in the long run.
Buy a home because you it truly makes sense financially and you’re ready (and excited) to deal with the challenges of homeownership.
Buy a home because it’s better for your housing dollar than the other options available to you.
Buy a home because it’s what you want and it’s what you can handle, not because it’s what others want.
2. I Thought Like a Landlord
Even though I was planning to live in the property, I approached the purchase like a landlord:
Would I purchase this as a rental property?
I kept this question at the back of my mind throughout the process. Would people want to live in this property? This neighborhood? How much rent could a landlord command in this area historically?
I’ll go into this more further below, but the key was to introduce an objective perspective. How would I look at this property if I were a renter?
3. I Negotiated … Hard
I gave my broker headaches. I was a tough client to represent. And I would do it all over again.
As a deal attorney, I haven’t had the luxury of ducking negotiations or head-on confrontation. I had to get comfortable with pushing back when I know my interests aren’t being looked after.
I negotiated hard on price. I negotiated hard on concessions. Repairs. Land title. Insurance. I negotiated hard on pretty much everything you can negotiate on (and some stuff that you can’t, as my broker had to point out to me).
We weren’t afraid to walk away at any point in the process. In fact, we put in bids on six different properties and closely researched nearly two dozen others. The earlier deals fell apart because certain aspects weren’t to our liking. The point was to not get married into any particular property and instead soldier on when things didn’t work out to our satisfaction.
The #1 Tip to Make Sure the Homebuying Process Works in Your Favor
Make sure you and your realtor are aligned.
We fired our first realtor. There were a number of problems with his performance, but they boiled down to these three:
He wasn’t any good at math. Our first realtor was more concerned with our feelings, which is fine, but I was looking at the purchase with cashflow in mind. The mismatch led to communication problems. The second realtor wasn’t much better at math, but at least he understood where we were coming from.
He didn’t do his research. I expect a realtor to be able to answer basic questions, like “how much does a comparable 1-bedroom apartment rent for in this area.” Our first realtor never had a clue. The second guy could at least point us to good resources for answering those types of questions if he didn’t know himself.
He was awful at communicating. Sometimes, it would take two days for our first realtor to respond to emails. That might not sound like a huge delay in real terms, but in a hot housing market, two days is a long time. I’m certain we lost out on a few properties due to these kinds of delays. I wondered if this was normal for the profession, since I’d never worked with a realtor before. But our second realtor didn’t seem to have this problem.
If you’re going to make a big purchase like a condo or a house, you need to trust the person you’re working with. You are basically entering a partnership with your realtor for the time that you are house hunting together. You want to make sure that you’re compatible. And you want to make sure that the realtor is adaptable, open to changing the plan, and flexible.
In other words, agile.
The Rules of Agile Homebuying
1. You get value when you buy, not when you sell. People who buy assets at full price hoping one day they will increase in value are called speculators. That’s the mistake everybody made during the housing bubble. We made sure to buy a property that was value at the moment we closed. Based on comparables, we were confident that we were getting a discount in the $2,000-3,000 range. Not a steal by any means, but value nonetheless.
2. Look for a cash flow positive property. Even if you are looking to live in the place like we were, we still focused on what income the property could produce as a rental. Paula at Afford Anything talks about the 1 Percent Rule, which is a good way to screen properties upfront so you don’t waste a lot of time chasing properties that can’t possibly pay out. Most $300,000 McMansions fail the 1% test because no renter would pay $3,000 a month to rent the same property. Our property passed the 1% Rule with flying colors, even factoring in management costs at 9% and a vacancy rate of 1 month out of every 12.
3. Location matters. We picked a place that’s literally five minutes away from everything: the highway, the train station, a Whole Foods, a theater, a Target, and an elementary school. None of this stuff guarantees that the property will go up in value or that we’ll get a renter at the drop of a hat, but they’re all factors that help. The mistake many people make when buying a house is to only focus on the interior of the house and maybe the school district. A gorgeous house in a great school district that is a 30 minute drive from civilization is a mixed bag. The commute alone will keep potential buyers/renters from ever viewing your property when you (inevitably) have to sell or rent it.
4. Pay with cash. We did all the prep work based on taking out a 15 year mortgage at about 3% interest. I thought the rate (barely above historical inflation) was a bargain, and I was happy that the property still passed the 1% Rule even counting a shorter-but-higher-interest-rate mortgage. But then we paid entirely in cash anyway. The major benefits were that we were more attractive to the seller, who chose us over other competing bids, and we closed lightning-fast (everything is easier when you don’t have to deal with a bank). I’m happy we didn’t take on more debt, even though our savings took a hit.
There are still risks with homeownership. I don’t want to minimize them.
Our property tax could shoot up. We might have to eat the cost of a major repair down the road. The condo association could jack up the HOA fee. Or we might be in another recession by the time we need to sell.
There’s a risk to the cash outlay we made. We might wish for that money back if there’s a medical emergency in our future, for instance. Our maybe we could have made more money putting that cash into an index fund over the next five years.
These are all real possibilities. Homeownership is not for you unless you can confront these risks with your eyes open and weather these types of shocks if and when they do happen.
If you’re living paycheck-to-paycheck, why in the world would you expose yourself to the risk of a $8,000 roof repair?
I hope that with the process I’ve laid out here, we’ve avoided many of the pitfalls of first-time homeownership. To recap, here’s how we thought through the problem:
- Make sure the property follows the 1 Percent Rule (including all payments).
- Don’t fall in love.
- Think like a landlord.
- Research, research, research.
- Pay with cash if you can, otherwise a 15-year mortgage at ~3% is OK.
Following these rules, I estimate 90% of the people who own homes should not be homeowners.
I can only hope that we’ve bucked the odds.
Image by Images_of_Money.