3 Questions To Keep Perspective About An Underwater House

Your house is not necessarily your home, and your home isn’t contained in your house.  Separate  the two ideas for a more meaningful decision about your future.

Home evokes warm and fuzzy feelings about family, security, belonging and community.  To suggest that a homeowner walk away from  his home produces gasps of horror and protests of “never”.   Yet when housing is the biggest single expense in a family’s budget and we’ve been raised to think that our homes represent our most important investment, it’s worth untangling emotions from financial facts.

Thirty one percent is the slice of the budget most experts allocate to housing.  That includes property taxes, insurance and maintenance.  Some finance gurus will stretch to 35%.  In the great housing boom, the stampede to buy before the price of housing got further out of reach trampled the idea that the roof over your head was priceless.

Limiting what is spent on housing is all about balance.  It leaves money in the budget for less tangible and less immediate needs like emergency reserves and retirement savings.  Overpay for housing and there’s nothing left for these other necessities.

We chummed ourselves along in overpaying for houses by telling ourselves that the equity in our house was also our retirement nest egg.  Then housing values plummeted. So, what to do?

I start with a pivotal question:  what would it cost you to rent equivalent housing? If your current expenditures on your home (mortgage payments, taxes, insurances, HOA, and maintenance) are close to your hypothetical cost of renting, then it makes little  economic sense to change.

If, however, the carrying costs of your home are significantly greater than the cost of renting, the difference is the investment component of  homeownership.  That’s the amount you are overpaying for housing in the expectation that those extra dollars buy you a valuable asset.

Consider the second gating question:  is real estate the best use of the investment component? The answer will depend on how far underwater the house is in today’s market.  How much do you need to pay down the debt before your investment is worth as much as you owe? Every dollar of the investment component spent on the house between now and that point is money wasted.

Weighing alternative investments must look at what other investments you have.  If you have a defined benefit retirement plan or significant stock holdings, perhaps holding an underwater house for a decade may make sense.  If you don’t have other investments or retirement assets, it’s hard to conclude that further payment on an underwater house is financially sound.

My third question:  can you make the current house payment in retirement? The closer you are to retirement, the harder you need to think about whether a retirement income can fund the wait for housing values to improve.  If the payment is unsustainable in retirement, then it makes less sense to hang on if you are going to have to sell at a loss anyway.

My call is for a less sentimental look at homeownership and a harder look at the economics involved.  Home is about the people around you and the relationships they share.  It’s not about the real estate.

Image courtesy of USGS.

If You Liked This Article, You'll Love These:

1. It’s Just a House
2. Should I Rent or Buy My Home?