The housing crash is still in process and here are 10 reasons why it is still a terrible time to buy. Words: 1670
So says Patrick Killelea (http://patrick.net/housing/crash.html).. Lorimer Wilson, editor of www.munKNEE.com, presents below further edited [..] excerpts from the original article* for the sake of clarity and brevity to ensure a fast and easy read. (Please note that this paragraph must be included in any article reposting to avoid copyright infringement.) Killelea goes on to say:
1. House prices are still dangerously high compared to incomes and rents
[On one hand] banks say a safe mortgage is a maximum of 3 times the buyer’s annual income with 20% downpayment [and on the other] landlords say a safe price is a maximum of 15 times the house’s annual rent. On the coasts, [however] both those safety rules are still being violated. Buyers are still borrowing 6 times their income and putting only 3% down, and sellers are still asking 30 times annual rent, even after recent price declines.
Renting is a cash business that proves what people can really pay based on their salary, not how much they can borrow. Salaries and rents prove that prices will keep falling for a long time. Anyone who bought a “bargain” this time last year is already sitting on a very painful loss.
2. It’s still much cheaper to rent than to own the same size and quality house, in the same school district
On the coasts, annual rents are 3% of purchase price while mortgage rates are 6%, so it costs twice as much to borrow the money as it does to borrow the house. Renters win and owners lose! Worse, total owner costs including taxes, maintenance, and insurance come to about 9% of purchase price, which is three times the cost of renting and wipes out any income tax benefit. Buying a house is still a very bad deal in the richer neighborhoods, but it does make sense to buy in some relatively poor neighborhoods where prices have already fallen into line with salaries and rents.
The only true sign of a bottom is a price low enough so that you could rent out the house and make a profit. Then you’ll know it’s safe to buy for yourself because then rent could cover the mortgage and all expenses if necessary, eliminating most of your risk. The basic buying safety rule is to divide annual rent by the purchase price for the house. If the calculation comes out to 3% or less then do not buy; if it is 9% or better then, [everything else considered,] it is OK to consider buying; anything in between [suggests that any purchase decision] is borderline.
It’s borderline, for example, to pay $200,000 for a house that would cost you $1,000 per month to rent because that’s $12,000 per year in rent while if you buy it with a 6% mortgage, that’s $12,000 per year in interest instead, so it works out about the same. Owners can pay interest with pre-tax money, but that benefit gets wiped out by the eternal debts of repairs and property tax, equalizing things. It is foolish to pay $400,000 for that same house, because renting it would cost only half as much per year, and renters are completely safe from falling house prices.
3. [Upcoming higher interest rates will cause house prices to decline]
House prices rose as interest rates fell, and house prices will fall as interest rates rise, because a fixed monthly payment covers a smaller mortgage at a higher interest rate. Since interest rates have nowhere to go but up, prices have nowhere to go but down. The way to win the game is to have cash on hand to buy outright at a low price when others cannot borrow very much because of high interest rates. Then you get a low price, and you get capital appreciation caused by future interest rate declines.
To buy at a time of low interest rates and high prices like now is a mistake. It is far better to pay a low price with a high interest rate than a high price with a low interest rate, even if the mortgage payment is the same either way because:
1. A low price gives lets you pay it all off instead of being a debt-slave for the rest of your life.
2. As interest rates rise, house prices must fall.
3. Your property taxes will be lower with a low purchase price.
4. Paying a high price now may trap you “under water”, meaning you’ll have a mortgage debt larger than the value of the house and then you will not be able to refinance because then you’ll have no equity, and will not be able to sell without a loss.
4. Leveraged housing appreciation cannot be counted on, and can just as easily work against a buyer, in this environment
Leverage, usually presented as the “secret” to wealth, is the danger that got current buyers into trouble because buyers used too much leverage. Leverage means using debt to amplify gain but most people forget that debt amplifies losses as well. If a buyer puts 10% down and the house goes down 10%, he has lost 100% of his money on paper. If he has to sell due to job loss or a mortgage rate adjustment, he lost 100% in the real world.
5. [Market too weak to compensate for selling costs]
House prices do not even have to fall to cause big losses. The cost of selling a house is 6% and on a $300,000 house, that’s $18,000 lost even if prices just stay flat. So a 4% decline in housing prices bankrupts all those with 10% equity or less.
The simple fact is that the renter – if willing and able to save his money – can buy a house outright in half the time that a conventional buyer can pay off a mortgage. Interest generally accounts for more than half of the cost of a house. The saver/renter not only pays no interest, he also gets interest on his savings, even if just a little.
6. [House prices are still not based on] supply and demand
Prices are entirely a function of how much the banks are willing and able to lend… [and the extent to which they are prepared] to acknowledge their losses, or can push their losses onto taxpayers through government housing agencies like the FHA. [As such, to date, the banks are doing their best to avoid give the impression that there are less houses available for sale than is actually the case. When this facade collapses house prices will drop even further in recognition of the true state of the market – over supply and little (or reduced) demand.]
7. Massive and growing backlog of latent foreclosures [will keep real estate market depressed for some time to come]
Millions of owners have simply stopped paying their mortgages, and the banks are doing nothing about it, letting the owner live in the house for free. If a bank forecloses and takes possession of a house, that means the bank is responsible for property taxes and maintenance. Banks don’t like those costs. If a bank then sells the foreclosure at current prices, the bank has to admit a loss on the loan. Banks like that cost even less. So there is a tsunami of foreclosures on the way that the banks are ignoring, for now. To prevent a justified foreclosure is also to prevent a deserving family from buying that house at a low price. One day, those foreclosures will wash over the landscape, decimating prices, and benefitting millions of families which will be able to buy a house without a suicidal level of debt, and maybe without any debt at all!
8. [House prices have to come down further for young and lower income people to afford them]
Houses price increases don’t produce wealth, they merely transfer it from the young to the old – from the coming generation of families who have to burden themselves with colossal debts if they want to own, to the baby boomers who are about to retire and live on the cash they make when they downsize. House price inflation has been very unfair to new families, especially those with children. It is foolish for them to buy at current high prices.
9. Retiring boomers will depress house prices further
70 million Americans, born between 1945-1960, are beginning to retire and yet one-third have zero retirement savings. The only money they have is equity in a house, so they must sell. This will add yet another flood of houses to the market, driving prices down even more.
10. Huge glut of empty new houses will force builders to drop prices even faster than owners
Builders must sell to keep their business going and they need the money now. Builders have huge excess inventory that they cannot sell at current prices, and more houses are completed each day, making the housing slump worse. [That can not be good for the price of houses be they resale or new!]
It is still a terrible time to buy and the only true sign [that the house you are interested in is of good value] is if it is at a price low enough so that you could rent it out and make a profit. Then you’ll know it’s probably time to buy because then rent could cover the mortgage and all expenses if necessary, eliminating most of your risk.
[Editors note: Do your own calculations and, based on the above guidelines and rationale, I think you will agree that house/condo prices have much further to go DOWN in price before it makes economic sense to buy.]