Yesterday, Daniel S. told us about his new $495,000 starter house. Today, one of you offers some tougher love than I did. I just suggested he hold off on the home improvements. Mike suggests he turn right around, having owned it just a few weeks, and sell:

Mike Gavaghan: ‘A $495,000 house needing $40,000 in improvements? A $400,000 debt from two loans and $100,000 income? Yikes! How can your advice to Daniel S. be anything short of ‘Sell’?

‘Our stories are remarkably similar: identical income, similar fields, young family, work-at-home spouse. I can certainly identify with his desire to get the growing family out of a cramped apartment, but I also know how much money is left at the end of the month on that salary – and I don’t even pay state income tax. His $2,674/month mortgage payment doesn’t even pay down the $75,000 home equity loan, so his already high 32% debt ratio is really substantially higher.

‘I also remember reading in The Millionaire Next Door how the price of a house relates to the standard of living in the neighborhood and the cost of maintaining that standard of living. Daniel might not completely realize what he’s signed up for!

‘How can he possibly have any money left over each month? This has already cut into his ability to save for retirement (down to a scant $6,000/year plus whatever, if any, his employer matches). Does he have anything left to put away into an emergency fund? His son’s education? What if he needs to borrow to buy his next car? Where is _that_ monthly payment going to come from? Perhaps a large chuck of the $40,000 “home improvement fund” should be earmarked for his next vehicle purchase instead?

‘For $100,000 less mortgage, he’d have less square footage and a longer drive to work, but an extra $830/month left in his wallet (actually, even more since his property tax would be lower, too). Let’s consider what he traded in exchange for his dream home: $10,000/year less to put toward financial security, retirement, a nice summer vacation, and perhaps some new furniture. For $200,000 less (still a $300,000 home), he could double the spending money he has left!

‘My wife and I aren’t exactly shining examples of careful budgeting. We married in 1995 with a combined debt of $80,000 (car loans, student loans, and credit cards) and a combined income, at the time, of $75,000. I know the fear of living one missed paycheck from disaster. I also know how exhilarating it was in 1999 when, after years of belt tightening, we paid it all off (although the telecom bubble of the late 90’s helped by making 1999 a banner year in terms of my salary).

‘Since then, living below our means has allowed us to buy two vehicles with cash, survive two layoffs without going into debt, and cover the $6,000 orthodontic bill for my wife’s braces. Our kids are begging to go to Disney World next year, and we know we can deliver on our promise to take them there without borrowing on credit cards. My wife has the option of going back to work full-time in a few years. We certainly don’t have a lifestyle that requires her to do it. Financial security isn’t just exhilarating, it’s liberating.

‘Daniel has signed himself up for years, maybe decades, of financial risk and fear. What about that $40,000 cash? He’ll burn through that in no time if he gets laid off for even a few months. How will he save it back up again? The burden of being the sole source of income for a spouse and child is an awesome responsibility – Daniel’s wife has placed an enormous amount of faith in him. I know how that responsibility can seem unbearable when it’s a struggle to make ends meet.

‘Daniel will, of course, bear a substantial cost in selling his house in exchange for a smaller one, but the crushing amount of interest he’s paying on his current mortgage ain’t cheap, either. Daniel and his wife will have to run the numbers and compare them to their priorities. Is spending every available dollar on their house really worth all the other luxuries and opportunities they traded for it? ‘Stay’ or ‘sell’ isn’t a clear decision, but I’d definitely urge them to give strong consideration to ‘trading down’. They’re in a frightening situation. I know; I’ve been there.’

☞ Well, I have always been a fan of living beneath one’s means. But having just bought the house, this is a tough call. Selling and moving could easily cost close to 10%, all things considered – $50,000. So maybe the better alternative is to tough it out. Or perhaps put it on the market at $549,000 and see what happens.

Two years from now, he could be laid off and in deep trouble with this – or earning $115,000. And three years from now, his wife really might go back to work, which he estimates would add $45,000. If we get deflation and he loses his job, he’s got a problem. But with inflation, this could one day be a $1.2 million house with a fixed 5.75% mortgage – the envy of new buyers having to pay, say, 8%.

But, yes, it’s a tough call.


Kinda silly, but go to google, type in Weapons of Mass Destruction, and click ‘I’m Feeling Lucky.’

‘If this is class warfare, then my class is winning.’
– Warren Buffett


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