By Tom Bradley
In yesterday’s Report on Business, Rob Carrick implores young people to invest in financial assets, not rush to buy a home (see For Young Adults, Stock Market a Better Investment Than Home Ownership). It got me digging through my pile of clippings in search of a MoneySense article that related to Rob’s piece.
In the June issue of the magazine, there’s a feature called ‘How I Did It’, which celebrates the drive and determination of a young homeowner.
Blake (21) wanted to start building wealth at a young age. He learned from his uncle and Mom that buying a house was a great way to do it. Blake has been a diligent saver and at age 19 committed to buying a house. After just 15 months working as an auto mechanic apprentice, he bought a 1,300 square foot townhouse for $236,000. It was not yet built, so Blake put $3,000 down and has been paying $1,000 per month to the builder.
When the townhouse is finished, he plans to rent it out for $1,300 a month, which is “almost enough to carry all the expenses.”
I understand why MoneySense would want to celebrate young Blake. He’s proven to be an awesome saver and is clearly going places. But ... there is so many things wrong with this scenario and I think it’s a horrendous example for other young people to follow.
Let me hit on a few.
Given the fact that the income from his property is negative, Blake is speculating on rising house prices.
- The assumptions Blake is working from are clearly one-sided. There’s no mention of the market going down for a period or interest rates going up.
- Blake has no cushion if he loses his job or doesn’t find a tenant right away. Hopefully it won’t happen, but it wouldn’t take much of a downturn for him to be severely under water.
- Having put so little money down, he’s forced to pay mortgage insurance premiums, which certainly slows down the wealth generation process.
Hopefully Blake will do well from this transaction, but his story epitomizes where we are in the housing cycle. There’s a deeply embedded assumption that prices will continue to rise, rates will stay low and the job market will be robust. And more than anything, his story demonstrates our complacency towards debt. Blake has just celebrated his 21st birthday, is still a few years away from being a fully-licensed mechanic, and has $200,000 of debt with very little equity. Yikes.
I agree with Rob. Disciplined, diligent savers like Blake should start by making regular contributions to an investment portfolio. In this scenario, he’s paying himself instead of the bank, and putting himself in a great position to buy a house in the future.