Buying a house has been a big part of the American Dream. However, multi-millionaire author Ramit Sethi says the numbers indicate otherwise. The host of Netflix's "How To Get Rich" believes you can sell a house at a profit but still lose money to "phantom costs."
As the New York Times bestselling author of "I Will Teach You To Be Rich" and someone who believes in running the numbers, Sethi highlighted in his podcast that Americans end up paying much more for buying a house than renting.
He stressed that we've been "lied to about buying a property," and the true costs are generally not accounted for. Sethi said that we've been sold a dream where we picture a US family as "a single-family home with a white picket fence, two kids and a dog...think about it," adding that it "is not an accident...where did that dream come from? That dream is the result of decades of marketing," where the National Association of Realtors (NAR) has also played a part.
The Current Housing Landscape
The average US home prices stood at $495,100 in Q2 2023 and remained steady throughout the year. Meanwhile, a recent GoBankingrates survey indicated that almost 50% of Americans live paycheck-to-paycheck. The average monthly apartment rate in the US also climbed during the boom but stabilized at $1,340 in November 2023.
Sethi highlighted "the craziness of the people who buy houses [valued] for five or 10 times their salaries with a 3% downpayment," with the feeling that they might be buying into the American Dream.
Mansion Global reported that considering the top 10 US metropolitan areas where renting beats buying in February, the average monthly cost for purchasing an initial house is nearly double that of renting, at $1,950.
Meanwhile, closing a starter home was 60% more costlier than renting one, costing a homebuyer $1,027 more monthly than renting. This was primarily due to higher mortgage rates on elevated inflation, high housing prices, and declining rents. The report added that renting was the most cost-effective in Austin.
Myths of Owning a Property
Sethi was straightforward and realistic about the myths about owning a house. He briefly explained them in four points:
Prices in Real Estate Always Go Up
"You think people understand this after the 2008 recession, but there are powerful forces at play to forget about it, such as the NAR and even the government, all encouraging you to buy a house," according to Sethi.
He continued: "In real estate, which is opaque, landlords will often discount the number of months you can pay, and they'll do rate buydowns...they will do all kinds of things to avoid reducing the price [of a home]...to keep up the myth that buying a house always [means value] goes up."
The average US house prices skyrocketed from $374,500 in Q2 2020 to $552,600 in Q2 2022 amid the single-family rental boom triggered by the pandemic. Since then, prices have corrected to $492,300 by Q4 2023 as the effects of the pandemic fade away. Like any investable asset, housing properties experience price volatility based on market sentiment and demand.
The Value of a House Doubles Every Ten Years
Sethis says, "This isn't always true...and even when the price does double...most people forget to factor in phantom costs," which are "all the costs of a house that people forget about."
These regular, recurring costs amount to a big chunk of money over time and must be accounted for when selling a property at a higher price than you paid. According to Angi's 2023 annual State of Home Spending survey report, the average US home maintenance costs alone stood at $2,458 last year. Overall, an average homeowner spent $13,667 on home services in 2023, which included home improvements and emergency costs.
Sethi pointed out overheads like closing costs, taxes, property insurance, maintenance, repairs, even the "opportunity cost of that [house] downpayment" and what you could have made if you "simply invested that in an S&P 500 Index fund."
You Can Use Leverage to Increase Your Money
Sethi said, "This is partially true, and homeowners often point to leverage as a key benefit...but remember this...leverage works on the way up as well as the way down."
He explained that if your house declines by 10%, "you don't just lose 10% of your equity, in fact, you can be wiped out," adding that it is important to remember that leverage can work for you or against you.
Deducting Mortgage Interest Payments From Annual Taxable Income
Sethi said most people forget that they are saving money that they ordinarily never would have spent.
"You don't spend a dollar to save a dime," he said. Regarding tax deductions, Sethi pointed out that the maximum mortgage principal loan amount eligible for deductible interest was reduced to $750,000 in 2017 from $1 million before that and has remained the same.
He strongly believed that most people don't know what tax deductions apply to their housing situation, and the deductions also vary widely for different homeowners.
The Shift to Renting from Owning
It is important to note that homeownership in the US declined after the 2008 recession and was below the 25-year average, at 65.7%, in Q4, 2023. Millennials, as the largest share of homebuyers, are shaping the US housing market in the new decade, and a rising number of them say they plan to rent forever.
Their housing priorities, preferences, and corresponding costs differ from those of earlier generations. Millennials seek mobility, lower financial accountability, experiences over material possessions, and the freedom to move places. They generally avoid being tied to a binding mortgage.
Sethi said, "In many, many cities, the amount you pay for owning a house is much more than you would pay for rent in an equivalent house, especially after you factor in all the phantom costs... high-cost-of-living cities like New York, LA, San Francisco...buying can be way more expensive than renting." Instead, I'd rent and text my landlord to fix any issues, he added.
Property as an Investment
Sethi also addresses the question of buying a property and then renting it out for passive rental income. He believes it can work, but investors must "really" know their numbers.
Sethi said, "Over half of the people [in financial trouble] who write to me are because of one of two things: their housing costs or how much they spend on their cars. So, buying a house should be thought of as a purchase first, a very expensive purchase, and an investment second."
He continues to explain that this is primarily because of two reasons. First comes the problem of risk. Sethi asked: "If your house is your biggest investment, how diversified is your portfolio? If you are paying $2,000 a month towards a mortgage, are you investing $6,000 elsewhere to balance risk?"
Secondly, Sethi argued that real estate offers mediocre returns for individual investors, citing Yale Economist Robert Schiller, who found that from 1915 to 2015, home prices increased on average only "0.6% per year."
When Can Buying a House Work For You?
Sethi said he'll buy a house someday anyway, which would be a "terrible financial decision." He is mostly against making poor financial decisions and simply following what everyone else is doing without ever "running the numbers."
He listed several questions that you must ask yourself when thinking of buying a house:
- The first thing is whether you will live in that property for over 10 years. Sethi said that just like a car loses value right when it is bought and driven, houses lose tens of thousands of dollars when bought as well. So, for a good financial outcome, spread those homeowners' costs over a long term, like a decade, he added.
- Secondly, he explored whether it is possible for most to keep monthly housing costs under 28% of gross income, stating that 28% has historically worked well for homeowners. Anything higher increases your risk exposure and restricts free cash flow.
- Sethi discussed if homeowners have saved for a 20% downpayment. He didn't say that you put in 20% all at once but highlighted how saving more creates a buffer for unforeseen costs and promotes the habit of saving, which is imperative once you own a house.
- The value of a house can fluctuate, and the pandemic is a clear example. Hence, you must be prepared for any property depreciation. Sethi reiterated that property appreciation is also somewhat offset by general housing costs.
- Lastly, Sethi wanted the viewers to understand if they were excited enough about purchasing a house. The millionaire noted that many face pressure from others buying houses, which can push them toward making financial decisions in haste.
Renting or Buying
Whether you buy a house as an investment or a place to live depends on your current financial stature, goals, and lifestyle. Although renting can be more cost-effective than buying a house in some US cities, no ownership is involved, limiting rights and access to the property.
However, liabilities are less than owning a house, which involves various costs, starting from agent fees and mortgage fees when buying to staging costs and listing fees when selling. If you are planning to buy multiple properties to rent them out, you might actually face stiff competition from institutional investors who are scoping up single-family rentals across the state in huge lots.
When shopping for houses, ensure to weigh the options through patient research and partner with a vetted real estate agent. If you rent, you may find a better place for a fraction of the monthly amount you would have paid to own that house.
