Do not buy something just because you can afford it

by Xin Lu on 19 February 2008 9 comments

Since I got married people have been constantly asking me two questions. One is, "are you pregnant yet?", and the other is "are you going to buy a house?" If you are a reader of my personal blog you would know that I do not want to buy a house in the San Francisco Bay Area right now because the prices are still quite ridiculous. The hubby and I always tell people that we cannot afford a house, but that is not entirely true. We can afford to buy a house with a pretty nice margin of comfort, but we do not want to buy one just because we can afford it. One day I told someone that I do not want to afford a house right now and he asked me what I meant, and here is my explanation.

  1. We do not need to spend more - The cost to own a unit similar to what we live in is two to three times of what we pay in rent. The only purpose of a house is to provide shelter, and I do not see a need to upgrade just because we can afford it.
  2. Housing prices are dropping - This is an event that is being felt all throughout the country. In parts of the Bay Area prices have been dropping 10 to 20% and it is expected to drop even further. This means that if I bought a house now it would not be worth what I paid in just a few months.
  3. Owning a home would bring additional headaches - As renters, we do not deal with maintenance, and that is very pleasant when a roof or pipe needs repairs. Additionally, we are a young couple just beginning our careers, and we are not quite sure where we will end up. It is much easier for us to pack up and leave since we are renters.

Even though the example I used is a house, I think before you purchase anything you should ask yourself the following questions even if you could afford it.

  1. Do I really need to buy this?
  2. Does this purchase improve my life in a significant manner?
  3. Is this item worth my money?

Obviously, on the issue of purchasing a Bay Area home, I would answer no to all three of my questions and that is why I am not buying one even though we can afford it. Sometimes it is not that easy to answer all of these questions, but you may find that you can avoid a lot of frivolous purchases just by thinking about these questions. Unfortunately, I think a lot of people only ask themselves one question before a purchase: "can I afford this now?"

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Guest

I'm not even sure that they ask themselves if they can afford it. I'm in LA, and I've gotten a lot of pressure to buy a house with a 0% down ARM from friends and family in the past. But I wasn't willing to put 2/3 of my income into a risky loan just to own a place equal to what I can rent for much less. Yet I know plenty of people who make less than I do who rushed out to buy a house "because real estate only goes up."

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Ginny

It has been my experience over the years that people will always want you to do what they have done, except not quite as well.

Guest's picture

Not only do you provide an excellent example of financial awareness, but you also offer the unique perspective of someone living in the ridiculously expensive San Francisco Bay Area. Thank you!

I'm also interested in what other readers think of this post, since it seems most of them live outside the Bay Area. The cost difference in owning vs. renting here is much greater than in, say, Illinois or Iowa.

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Kathryn

The Bay Area is screwy, I think, even compared to other relatively high-cost areas (maybe Manhattan is the other exception) in terms of the rent-to-own ratio. (It's also screwy in that, popular perception to the contrary, housing prices are NOT dropping in the country as a wholeWhere I live now (DC suburbs), if you're making the calculation based on a new mortgage are are able to fully take advantage of the mortgage interest deductions, then the rent vs. own calculation is about break-even if you look at the short-term horizon. (e.g., a mortgage on a 500K house is about $3500 incl. tax/ins., but if it's a new mortgage your tax savings knock that down to about 2700, which is in the same ballpark as a similar single-family rental house).

It's a mistake not to look at the long-term horizon, though. Even if it is "advantage rental" if you compare current rents to current mortgage costs, you have to remember that rents usually go up every year. In fact, in a market where housing prices have spiraled out of control and rents have not kept pace (often due to certain types of rent control), when housing prices level or drop, rents will continue to ease upward as fast as the market or regulatory mechanisms will allow until they *are* on par with purchasing costs.

If you are swayed by the maintenance issue or simply don't need a lot of space, you should compare your rental costs with the cost of owning an equivalent condo, not a 4-br, 2.5 ba single-family home.

Xin Lu's picture
Xin Lu

"If you are swayed by the maintenance issue or simply don't need a lot of space, you should compare your rental costs with the cost of owning an equivalent condo, not a 4-br, 2.5 ba single-family home."

 

Hey Kathryn,

The fact is that I am comparing to an equivalent condo. I live in a 2 bedroom 2 bath condo a bit over 1000 square foot and I pay about 1600 excluding utilities. Here's a similar unit for sale:

http://redfin.com/stingray/do/printable-listing?listing-id=1467349

The listing shows a 2 bedroom 2.5 bath condo for $660,000, and that's about the middle of the range. There were some new ones for sale near my workplace that were 700k+. Totally not worth it. A 4 bedroom house is anywhere from 1 to 10 million here. I am not even going into that range.

Here is a similar sized house near where we live:

http://www.redfin.com/stingray/do/printable-listing?listing-id=1486892

This is a 1100 square foot single family for $874,900. Can we afford 5000 a month in mortgage? Yes, but why should we when we can save 3k+ a month into our retirement instead?

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Chris

In just a few weeks my wife and I will be moving into a townhouse near the beach. The rent is just amazing. Everyone around us is wondering why we are renting instead of buying, what with the interest rate being so low. My response is simple but seems to escape their understanding. Low interest on an overpriced home is not something I am interested in. In our neck of the woods homes are still anywhere from $40,000 to $75,000 overpriced. Renting in this real estate market is just fine by us.

Great article!

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Kate

As a serial home owner, I have been following the rent vs. own conversations with great interest. I think that you have done a great job of appropriately analyzing this choices available in your particularly situation. Your advice is very helpful, as usual!

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DivaJean

We get a lot of "When are you buying your bigger house?" With 4 kids, everyone else seems to think a 5 bedroom McMansion is absolutely necessary. We intend to stay put in our 3 bedroom ranch (with some plans to re-purpose a basement room into a Greg Brady cool bedroom for the eldest at home teen in waiting when its time- like in 5 years). When you get right down to it- in 10 to 14 years, we'd be looking to downsize again. What would the point be?

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Debbie

I plan to put your three questions to use, when comtemplating a new purchase, whether a piece of land or a new sweater! Thank you so much!