Thursday, September 15, 2005

A Sort Of Homecoming

I haven't bought a house yet and I'm often asked why. Well I've done some sums to justify my decision to myself, so I'll share them.

If I went to AIB, for example, and said I wanted to buy a €250,000 house I would have to find the first €20K of that and borrow the other €230K. That mortgage over 30 years at the current Standard Variable interest rate (3.3%) works out at a repayment of €1,006 per month. For the sake of a simplified argument, assuming that I stay in that house for 30 years, don't change my repayments and the interest rate never rises, then I will pay a total of €362,160 back to the bank and €382,160 in total for the house - a 53% increase on the purchase price.

Now that means the bank will make a profit of €132,160 over thirty years in interest payments, if the interest rate never rises (a fall from 3.3% is simply not going to happen unless we end up in a recession, which would result in falling house prices anyway thus rendering this argument meaningless). That equates to a bank profit of €367 per month. I pay rent of €425 per month.

Now I have only mentioned the cost of buying the building. Furnishing the house is a whole other matter. There are different opinions on the cost of this. Some people are so anxious to own the house that they'll scrimp on the furnishings, take other people's unwanted shit etc. Others believe that, if the place is going to be your home, you should make it yours as much as possible. I would be in the latter camp and believe I would do well to get change out of €20K - €30K. Assuming I make my SSIA my €20K deposit and, assuming I want to keep my share portfolio (my only other savings) for a rainy day, I would have to borrow this as well.

I'm not sure how this bit works, can you get a bigger mortgage to cover furnishing the house or is it a separate (higher interest) loan? I think you can top-up mortgages to help, so to make it easy I'll lump it with the mortgage and assume I now have to borrow €257K. The respective figures become €1,127 per month repayment, total expenditure on house €428,120, €405,720 for the bank or €411 profit to the bank per month. In other words the equivalent of my rent; and I don't pay any maintenance, rates or bin charges.

What I'm getting at is that rent gets called "money down the toilet" but what's bank interest? OK, this has all been highly simplified - for example I have a flatmate covering the other half of the rent. But every argument for has a valid argument against. For example I've been told being a tenant is insecure, but what is home ownership if there's negative equity or you lose your job? Also you're entitled to tax relief on a mortgage but I haven't included solicitor's fees or life assurane costs.

I currently live in a new 850 sq ft. apartment in the middle of what is one of the more favoured Cork suburbs. If you type €250K into a search engine like myhome.ie the districts in Cork thrown up are not to the same standard (and I'm being kind there) and you're looking at either an old terraced-job needing a lot of money spent on it, or a crappily built semi-D in an estate with nothing going for it, or way out in the sticks.

What I'm trying to say is why would I deliberately disimprove my lifestyle by moving to a crappier location just to own property? Look at it this way, imagine you moved to a place for the first time and decided you wouldn't like to rent in a certain area. Why would you then make the so-much-bigger commitment to buy there? Would you ever decide to marry someone that you wouldn't consider dating?!

A final consideration is inflation. To maintain it's real value the house that I've spent €250,000 buying would need to be worth €453,000 in 2035, assuming that inflation never tops 2%. That, of course, negates the fact that I've actually paid far more than that in interest repayments, maintenance, furnishings etc. But how much I've actually paid for it is important.

Bare with me while I do a final sum - I might get this wrong but... the easy thing to do here is to say that my 250K house actually costs 382K after 30 years and that to break even in 30 years time it would have to be worth €690K to account for inflation. But that's not right because I have assumed that the value of my repayment is unaffected by inflation while the value of my house is. So I think this is correct; assume interest stays at 3.3% for 30 years and inflation at 2% for the same length of time. I can then say that the real interest rate is only 1.3% as money loses its value over time. Then the real total cost of my house, when it has been paid off, at today's price is €297,880. Therefore, the house would have to be worth €539,000 in 30 years just to break even, factoring in the fall in value of money. That requires a 115% house price increase in that time.

Now I've left out one very, very imprtant point. If I was ever to have a partner and children all of that goes out the window, you have responsibilities then that matter more than pure economics. But, until then, the galloping house prices don't phase me. There are three reasons for the current, crazy prices - people buying to let as investments; the ridiculously cheap price of credit and the banks allowing people to borrow far more than the historical three times annual salary limit; and a population bubble of young adults born between the mid '70s and early '80s (which caused a primary school crisis in the mid '80s, a college places / student rental crisis in the mid '90s and the first-time buyer crisis of the last few years).

Despite being surprised at how long the bubble has lasted to date, none of those three factors can exist forever - people buying as investments implies a perpetual increase in the number of people looking to rent. Already we know that's not the case. Eventually those houses bought in less rent-convenient areas will go back on the market precipitating a price-drop. Also the steady supply of young people looking to buy will also begin to drop as the population matures. And both of these will happen regardless of whether the interest rates rise, which they must at some point as surely as night follows day.

Simply put my accomodation expenditure is a third of what it would be if I was a homeowner and cleverer investments than buying my own home (as opposed to investment property) means I have more money for my future and that buying that house will be relatively cheaper when that time comes. So until I have that sprog...
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