Why It Could Make Sense To Buy A House Even If Prices Fall 20%

While I have often warned about highly leveraged buyers who could be in trouble down the road, there are scenarios in which buying a home right now is not exactly a terrible idea.  If one has a significant down payment, is saving for retirement and/or a rainy day, is in a stable job, not planning to move for quite some time, can stomach a loss in real estate and if rent and mortgage payments are close, then it can be in some circumstances, not a bad time to buy.

I have had some ads emailed to me from kijiji where some people are paying $1400 to $1600 and more just to rent for a house!  To me this means not only are we in housing bubble but a rent bubble.  While house prices are financed by credit, rents are financed by wages and the increase in rents are not a reflection of the increase in wages over the last few years.  What has happened is that recent speculators or landlords have bought at crazy heights and must charge astronomical prices for rent to make ends meet.  But they have lucked out as housing demand is tight and so poor renters are forced to pay what these landlords are charging.  Eventually, the rental market will correct, timing it though is tough to figure out.  With that all said, it seems rents are a mortgage payment are not that far apart.  More on this in a bit.

The argument I hear is that maybe house prices fall down a bit here in Saskatoon, but with mortgage rates being so low, any negative equity that does happen will not be for long. So of course I graphed this scenario.  Here is how a loss of 20% in house prices looks like with a 25 year mortgage at 3.5% being paid down at $1800 a month.  In Saskatoon the average house in a decent area ( not condo or townhome) is around $360,000.

Here I am suggesting in this example the value of this house would lose 20% in 5 years and stagnate for a decade.  Does not look so bad, does it?  Negative equity would only happen for a small period of time.  But this does not take into account that the monthly economic  maintenance cost of a house is near $300 to $400 a month, property taxes of $300 a month, home insurance of $60 a month, and mortgage and disability insurance ( non-smokers, smokers add more) of $90 a month. So even though rent at $1600 and a mortgage payment of $1800 are nearly the same, the associated costs of a mortgage compared to renting are quite a bit higher. Ownership cost is near 50% higher. And this is factoring in that interest rates stay 3.5% for 15 years.

On the other hand, the benefits of paying over 50% more for a mortgage compared to rent of a house might be worth it to many people.  But there a few households that are first time or young buyers who can shell out $2500 a month or more just for an average house AND can save for retirement, AND pay for kids activities, AND save some for kids schooling, AND save for vacations, AND not be house poor.  But if you can do all that, can potentially stomach a loss in real estate values and look at a house as a place to live in, not as an investment, then maybe the premium of home ownership can make sense.