Expert: Matt Heisler - 12/21/2010

Question
Hi Matt,
We bought our home in 2004. It was a brand new very basic cape with 3 bedrooms and two full baths in Woodstock Ct. (Northeast Ct.) We bought it from the builder and paid $197.000. Now we owe about $160 with what I think,is a 5.25% rate. We still have two teen girls at home, 16 and 19 but would like to find a ranch home still in the area,that would be comfortable for us, it doesn't have to be big. I'm thinking that we could find a ranch for around $160, use most of our equity for the down payment (hopefully be able to keep enough to buy appliances and a few things for the house)and come out having less of a monthly payment. We are living a little above our means and would like to pay less than the $1192.00 we pay monthly (that includes tax and insurance.) We know we could find a decent enough ranch in this area for us. My question is , Is this a good time to do that? Do you think we might lose our equity if we wait a few years? Right now capes like mine are selling here anywhere from $200,000 to $239,000. Again mine is very basic, but we live in a lake association and it is pretty here, and we have a large raised deck where you can see little glimpses of the lake one street over through the trees. I have a dream of living in a home that is a little cheaper for us, one level, a woodstove,just a little charm, and a few hundred (or more dollars less a month)that would be comfy enough for the 4 of us for now, but one just the 2 of us could stay in forever. I know I'm ranting but I wanted you to know the situation. So is it a good idea to try to sell our house now, to trade down for something cheaper but still nice enough, roll our equity into it and go from paying a mortgage of $1192 that includes the tax and ins., to owing probably around 135 to $145 with a new mortgage and maybe even a better interest rate? If prices continue to drop wouldn't I lose my equity? So should I use it now and start looking at houses, or should I list my house first, then look if I get an offer? Would Spring be a good time or too late? I hope I'm making sense and I hope you could shed a little light on this with your professional opinion! Thank you!
Helena


Answer
Hello Helena:

A home is a leveraged investment.  That means when prices go up, you do much better.  When price go down, you suffer more.  Not to focus on the math, but you have 10,000 down on a $100,000 house, and prices go up 3%, you made 3,000 off a base of $10,000, which is a thirty percent return.  Can't do that in an index fund!!

Your concern is about the market continuing to head down.  I think, in New England, there is very little risk of that.  I don't work Woodstock, but inventories in my area are exceptionally low, and prices are up.  Not a lot, but up.  Most of the economists that look at housing feel that we'll be on the upside again by 2012 at the latest, as they have seen better statistics for months.  New England will be sooner.  

My predictions aside, most people are overly optimistic about what they can get, what they'll have to pay, and what it'll cost to move.  What I can tell you definitively is that a three bedroom ranch, and a three bedroom cape, are only moderately different in price, because the capes are usually bigger.  You're thinking it's an 80,000 difference, but, in my experience, I don't think that's likely.  Maybe $40-50.  Maybe.  Plus, it'll cost you money to move, 15K in commission, 5K in moving costs, 4K in a new mortgage, I'm sure there's a sales tax in CT for housing, etc.  So now you're looking at a saving $20-30K.  The mortgage on that is about $25/month, or $300/year in savings.  Hmmm.  That doesn't sound very good.

OK, now back to the prediction.  If the market goes up, and I would say there's a 90% chance of that, and you really aren't going to save any money by moving, you should stay put.  You will build more equity, protect more of your income from taxes, and have a better hedge against inflation, should inflation happen.  Not to mention it may make sense to factor in that people tend to get raises over time, so even if you're a little stretched now, you'll be less stretched in the future (hopefully).

This is usually my advice, by the way, unless downsizing results in 150K or more in less house (going from a $400K home to a $250K home). It's the same for going up stream as well, 150K is kinda the minimum before it makes sense.

Lastly, it is very common for people to "look in the rear-view mirror" financially. People sell stocks when the market is down (which is when they should buy) and buy when prices are up (which is when they should sell). Yes, the last five years in real estate have been bad.  But that is a HISTORICALLY long time for a real estate down cycle.  Your assuming it will continue, and if you REALLY believe that, you should rent.  Housing is for optimists! Otherwise mortgages are horrible financial instruments that make us poorer.

Do your local research!  Best of luck