17

I have heard several times that a mortgage is not necessarily a good investment from an investment return point of view, but is it a good investment considering the low risk factor?

Let's assume I have €80,000 and don't have my own place. I am renting a room for €400 per month and my salary is €1,800 Net.

Would it be wise in this situation to take a mortgage of another €120,000 and buy a house of €200,000 just to invest money and not worry about losing them? Considering the 40% mortgage down payment and rising real estate market value, it seems like a really safe option.

Of course I can keep renting for €400/month, which means I will have a lot of savings, but I don't feel confident when my bank is holding such a big sum of money. What if the Euro currency loses its value - then I can potentially lose everything. If I invest all my money into real estate, even though it's not going to generate me a lot of money, at least it feels like it's a extremely safe form investment.

  • Am I correct with my assumption?
  • Or are there any other safe forms of investment which would be better than real estate?
  • Or perhaps I am missing something and there is something else I could do with my money in this situation?

P.s. I don't have any loans or credits.

  • 16
    The major reason you buy a house is to have a roof over your head. The second house you buy might be an investment, but never use the first house as one. And a house will most probably be the costliest thing you will buy in your life, so decide carefully. rising real estate market value Don't assume it to be a certainty. – DumbCoder Oct 7 '16 at 11:32
  • @DumbCoder by 'investment' I mean that if I buy a house and it's insured, then it will be mine forever and even if whole market or currency collapses, then I will still have my home. If I keep 80k in the bank, and euro currency becomes worthless, then I don't have anything left. – user1880405 Oct 7 '16 at 11:39
  • One important number you should check is how many years of rent the buying price is. – CodesInChaos Oct 7 '16 at 13:25
  • 1) You sound like me in the future if I extend my savings pattern into the future. This question is pretty interesting for me. 2) Have you already checked whether, if you were to buy such a hypothetical house, you've have to spend any other cash on things you're getting for "free" now? Maintenance? – Pimgd Oct 7 '16 at 13:26
  • 4
    I question the premise of the Euro somehow becoming worthless (without first being convertible to something else of similar value) and you still having a house that you can live in. – Michael Oct 7 '16 at 16:10
16

The main point to consider is that your payments toward your own home replace your rent.

Any house or apartment you buy will have changes in value; the value is generally going slowly up, but there is a lot of noise, and you may be in a low phase at any time, and for a long time. So seeing it as an investment is not any better than buying share or funds, and it has a much worse liquidity (= you cannot as easily make it to cash when you want to), and not in parts either.

However, if you buy for example a one-room apartment for 80000 with a 2% mortgage, and pay 2% interest = 1600 plus 1% principal = 800, for a total of 2400 per year = 200 per month, you are paying less than your current rent, plus you own it after 30 years. Even if it would be worth nothing after 30 years, you made a lot of money by paying half only every month, and it probably is not worthless.

You need to be careful not to compare apples with oranges - if you buy a house for 200000 instead, your payments would be higher than your rent was, but you would be living in your house, not in a room. For most people, that is worth a lot.
You need to put your own value to that; if you don't care to have a lot more space and freedom, the extra value is zero; if you like it, put a price to it.

With current interest rates, it is probably a good idea for most people to buy a house that they can easily afford instead of paying rent. The usual rules should be considered - don't overstretch yourself, leave some security, etc.

Generally, it is rather difficult to buy an affordable house instead of renting today and not saving a lot of money in the process, so I would say go for it.

  • 13
    Don't compare payments either. When you own a house you own all repairs and maintenance as well. If you are not in a good place financially (lots of savings, etc) then you will be in a mess buying a house. – AbraCadaver Oct 7 '16 at 14:40
  • 1
    Also note that, if you get into financial difficulty (e.g. you lose your job and are unable to find one with similar pay), and hence cannot keep up with your mortgage payments, your house may be repossessed. If that happens at the same time as a housing market crash (because the economy is in a bad place generally), then you lose out. Reducing the amount you borrow mitigates this risk. – psmears Oct 7 '16 at 14:50
  • @psmears true but the OP's point still stands that if you can reduce your monthly expenses and end up owning an asset after a period then you clearly come out ahead. – Erik Oct 7 '16 at 14:59
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    @Erik: Sure - my point is that it is possible to end up not owning the asset... if security is important (as it seems to be to the OP) then this is worth considering, especially as it is a risk you can mitigate. – psmears Oct 7 '16 at 15:10
  • 5
    2400 * 30 years is 72000. That is way below the total value of the mortgage, and a big part of it goes in interests. So no, you are not owning the place after 30 years. – njzk2 Oct 7 '16 at 16:57
9

House prices do not go up. Land prices in countries with growing economies tend to go up. The price of the house on the land generally depreciates as it wears out.

Houses require money; they are called money pits for a reason. You have to replace HVAC periodically, roofs, repairs, rot, foundation problems, leaks, electrical repair; and all of that just reduces the rate at which the house (not the land) loses value.

To maintain value (of the house proper), you need to regularly rebuild parts of the house. People expect different things in Kitchens, bathrooms, dining rooms, doors, bedrooms today than they do in the past, and wear on flooring and fixtures accumulate over time.

The price of land and is going to be highly determined by the current interest rates. Interest rates are currently near zero; if they go up by even a few percent, we can expect land prices to stop growing and start shrinking, even if the economy continues to grow. So the assumption that land+house prices go up is predicated on the last 35 years of constant rigorous economic growth mixed with interest rate decreases. This is a common illusion, that people assume the recent economic past is somehow the way things are "naturally". But we cannot decrease interest rates further, and rigorous economic growth is far from guaranteed.

This is because people price land based on their carrying cost; the cost you have to spend out of your income to have ownership of it. And that is a function of interest rates. Throw in no longer expecting land values to constantly grow and second-order effects that boost land value also go away.

Depending on the juristiction, a mortgage is a hugely leveraged investment. It is akin to taking 10,000$, borrowing 40,000$ and buying stock. If the stock goes up, you make almost 5x as much money; if it goes down, you lose 5x as much. And you owe a constant stream of money to service the debt on top of that.

If you want to be risk free, work out how you'd deal with the value of your house dropping by 50% together with losing your job, getting a job paying half as much after a period of 6 months unemployment. The new job requires a 1.5 hour commute from your house. Interest rates going up to 12% and your mortgage is up for renewal (in 15 years - they climbed gradually over the time, say), optionally.

That is a medium-bad situation (not a great depression scale problem), but is a realistic "bad luck" event that could happen to you. Not likely, but possible.

Can you weather it? If so, the risk is within your bounds. Note that going bankrupt may be a reasonable plan to such a bit of bad luck. However, note that had you not purchased the house, you wouldn't be bankrupt in that situation.

It is reasonably likely that house prices will, after you spend ~3% of the construction cost of the house per year, pay the mortgage on the land+house, grow at a rate sufficient to offset the cost of renting and generate an economically reasonable level of profit. It is not a risk-free investment.

If someone tries to sell you a risk-free investment, they are almost certainly wrong.

  • 1
    He's in the Netherlands. The house won't have HVAC systems to maintain and replace, just H. – Mike Scott Oct 8 '16 at 10:15
  • As an example in the UK the physical cost of the average house is less than 1/8 of the value of the plot as a whole with insurance (which is mandatory with a mortgage this is not a factor). Maintenance cost are less than 1/100th of the rise in value here. Land prices are not just linked to interest rates, land is a finite resource while population is rising, land prices don't go down (barring outside factor), they rise or stagnate. – JamesRyan Oct 8 '16 at 13:02
  • @jamesRyan As covered above, a growing economy or lowered interest rates can trigger land+house price increases. Land prices can and have gone down. Maybe not in the last few decades near where you live, but it is a common error to presume that the last few decades are "just the way things are". – Yakk Oct 11 '16 at 13:13
  • @yakk it is a common error to assume they will continue short term trends but world population is growing, amount of land is not. Land will always increase in price in the long term. The problem that people faced is that safeguards to ride out short term fluctuations were removed. I'm not saying there arn't risks, but that shortcutting steps to mitigate the risks through ignorance/negligence/greed is what changed small losses to disasterous losses. – JamesRyan Oct 12 '16 at 9:21
  • @JamesRyan but how long is long term? In the long term, we'll all be dead. ;) – JJJ Jun 20 '19 at 21:42
8

People in the United States in the mid-2000's thought that real estate was safe.

Then they discovered that when the bubble burst the value of their house dropped 10 to 50%. Then they realized that they couldn't sell, even if they had the cash to make the lender whole. Some lost their houses to foreclosure, others walked away and took massive hits to their wealth and credit scores. When it is hard or impossible to sell, that means you can't move to where the jobs are.

While it is possible to make money in real estate, treating your house as an investment vehicle means that you are putting not only all your eggs into one basket; you are also living in the basket.

In general you should assume that all investment involves risk. So if you are trying to avoid all chances of losing money then the safest form of investment is via your bank account and government bonds. Your national government has a program to insure bank accounts, you need to understand the rules for that program, including types of accounts and amounts.

You should also look into your national programs for retirement accounts, to make sure you are investing for the long term.

Many people invest via the stock market or the bond market. These investments are not guaranteed, though there may be some protection for fraud. The more specific your investments (individual companies) the more time you need to invest in research and tracking. Many investors do so via mutual funds or Exchange Traded Funds, this involves less of a time investment because you are paying the management comp nay for the fund to do that research for all their investors.

  • Agree with you, but currently here in Holland I can get fixed interest for mortgage for 15 years at 3% which is really low. Consider that with 40% of down payment, and tax returns, it seems like a very low risk investment. I know it's not going to generate me money per se, but it seems less risky than having money in bank for years and years. And thanks! – user1880405 Oct 7 '16 at 11:32
  • Look out for early repayment charges - what happens if you want to move house within that 15 years? Also, if you choose a shorter fixed period, might you be able to re-mortgage at a lower rate later (because you'll have more equity). Or mortgage rates might have increased lots and you'll end up on a higher rate - all investing is a gamble. – thelem Oct 7 '16 at 14:56
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    people didn't lose out because the US housing market was unsafe, they lost out because they borrowed more than they could afford counting on rises which were not guaranteed. People who borrowed within their means did not go underwater and were never in the same trap – JamesRyan Oct 7 '16 at 14:57
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    some did. lose money even though they didn't overextend. Prices in my neighborhood dropped 20% in about two years. as the number of houses for sale grew, they couldn't sell and they were stuck, they had to cut their price even more to get out: that took cash. – mhoran_psprep Oct 7 '16 at 15:08
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    @mhoran_psprep I bought a house in the US 2004 and sold it in 2012 for about 30% more than I purchased it for. Not everyone lost money on houses during that time. I specifically moved to one of the most depressed housing markets to buy my first house in large part because I thought there was a housing bubble. The main reason I thought that was because I kept reading articles that said that there was a giant housing bubble. There's this idea that "no one knew" that there was a bubble and it's complete bullshit. Instead of doing a little research, people just followed the herd off of the cliff. – JimmyJames Oct 7 '16 at 20:45
7

There are two parts to this.

Firstly, if you are also living in the property you have bought, then you should not consider it to be an investment. You need it to provide shelter, and the market value is irrelevant unless/until you decide to move. Of course, if your move is forced at a time not of your choosing then if the market value has dropped, you might lose out. No-one can accurately predict the housing market any more than they can predict interest rates on normal savings accounts, the movement of the stock market, etc.

Secondly, if you just have a lump sum and you want to invest it safely, the bank is one of the safest places to keep it. It is protected / underwritten by EU law (assuming you are in the EU) up to €100,000. See for example here which is about the UK and Brexit in particular but mentions the EU blanket protection.

The other things you could do with it - buy property, gold, art works, stocks and shares, whatever thing you think will be least likely to lose value over time - would not be protected in the same way.

  • Well, money is protected in case of bankruptcy of bank - you're correct, but what if euro currency collapses and € is not worth anything any more. In my case I live in Holland, which is very densely populated country, and very high rent costs due to so many people living. So the risk of investing into a house seems rather low. My house will be there in 20 or 40 years (even if it loses value), but i have no idea what will happen with euro currency in 20 years. Thanks for answer! – user1880405 Oct 7 '16 at 11:30
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    It's an investment even if you do live there and can't sell it, because it replaces having to pay for somewhere else to live. – R.. GitHub STOP HELPING ICE Oct 7 '16 at 15:12
5

You are mixing issues here. And it's tough for members to answer without more detail, the current mortgage rate in your country, for one.

It's also interesting to parse out your question. "I wish to safely invest money. Should I invest in real estate." But then the text offers that it's not an investment, it's a home to live in. This is where the trouble is. And it effectively creates 2 questions to address.

The real question - Buy vs Rent. I know you mentioned Euros. Fortunately, mortgages aren't going to be too different, lower/higher, and tax consequence, but all can be adjusted. The New York Times offered a beautiful infographing calculator Is It Better to Rent or Buy?

For those not interested in viewing it, they run the math, and the simple punchline is this - The home/rent ratio can have an incredibly wide range. I've read real estate blogs that say the rent should be 2% of the home value. That's a 4 to 1 home/rent (per year). A neighbor rented his higher end home, and the ratio was over 25 to 1. i.e. the rent for the year was about 4% the value of the home. It's this range that makes the choice less than obvious.

The second part of your question is how to stay safely invested if you fear your own currency will collapse. That quickly morphs into too speculative a question. Some will quickly say "gold" and others would point out that a stockpile of weapons, ammo, and food would be the best choice to survive that.

  • Right. The point here is not to 'invest' but to turn some of your housing expenses into equity. No one is renting-out places at a loss (long-term.) You are still paying for the mortgage, taxes, and upkeep on the place you rent. Most everyone I know who owns rental properties covers their entire nut with the payments. They might not get cash out of it but they get the equity. What makes buying more expensive is that people almost always buy something nicer than what they would rent. – JimmyJames Oct 7 '16 at 21:08
4

Neither you nor others have mentioned the costs of being a homeowner.

First, there are monetary costs. If you own a house, you have to pay taxes. They will vary by jurisdiction, but are usually not zero. You also need insurance, which again comes with monthly rates.

Then, once in a while, you'll be hit with unpleasant lump sum payments. In 30 years, the mortgage is over and you own the house - but by that time, it will probably need a new roof. That's in the price range of a new car. And over that time, you'll rack up several other repairs which your landlord covers when you rent.

Another thing which feels less like an expense emotionally but ends up thinning your wallet is the cosmetic changes you make just because it's your own home. You wouldn't put marble floors in the bathroom if you rent, but you might be tempted to if you live in the house. It might be even worth it from a life satisfaction point of view, but we are talking finance right now, and that's a minus.

And then there are the opportunity costs. A house binds you geographically. You may pass up on a nice job offer because your house is too far away, for example. Or you might experience liquidity problems, because a house is difficult to turn into money in a hurry. If you are able to do so, it is usually a much larger sum than you need, and you are paying the costs inherent in that large transaction. These are just examples, you can probably come up with more costs.

Then, it is not sure how much money you can get of the house if you change your mind. Say you take this job at the other end of the country, or you become a parent of four and need more space. At the time you decide to sell, the market may have gone down due to the overall state of the economy, or to the house location's popularity, or your own house may have turned undesirable (what if you get a mold infestation which would only go away if you strip it to the concrete and rebuild?) You could let it to renters, but that's a hassle of its own. It takes time to find renters, it may be expensive (income tax, regulations like Energieausweis in Germany), it is risky (if they don't pay, you might not see money even if you sue them).

Then there is the problem that prices reflect not some kind of "true" value, but the intersection of supply and demand. And the home market is not as efficient as in a first semester microeconomics textbook. The buyers of private homes deal in small volumes, have little knowledge in the market, pay intermediaries' cuts, and are emotionally attached to the idea of "owning my own house". This drives demand up and creates higher prices than if you had perfectly rational actors on both sides. People pay money for the feeling of being home owners, so those who forego spending on that feeling have more money to invest in something else.


Owning something always causes expenses. You have to calculate the savings of having the house vs. the expenses of having it, before you can decide if it is a good deal or not. If you only calculate one side of the equation, you'll be badly mistaken.

  • This is totally correct. There are HUGE costs associated with owning a house; many, many, many people totally fail to understand this. – Fattie Oct 8 '16 at 12:58
3

Forget investment, is it a good idea to buy this house?

Investment is very uncertain, so I believe that unless you have loads of money, you should not play around with houses for the sole purpose of investing. Here are the questions which I would consider to judge the situation. Note that this is based on the current situation in The Netherlands

Question: Can you afford this house

Income: Your income is 1800 a month nett, which means your gross annual income should be somewhere below 28500.

Allowed mortgage amount: Your maximum morgage amount is then roughly 135000

Is it expensive?: Given your maximum morgage, buying a 200k appartment would consume pretty much all your cash. There is some cost of buying the appartment, so basically if you buy it, you will not have much cash to decorate or deal with unforseen maintenance. If you are conservative, I would say that buying a 175k appartment is financially much more relaxing in your situation.

What will be the monthly expense?: Monthly mortgage payments will be about 450~500. So your cashflow will suffer a bit. The amount you actually 'burn' on interest in the early months is about 180 nett (assuming an interest rate just below 2% and tax deductions). There will be additional costs (more heating, long term maintenance etc.) so overall the amount of money you burn will be close to the amount of money you burn on rent. Of course over time there will be less interest, so this should go down.

Question: Is an affordable house a decent investment

Value change: The value may go up or down, in the very long term I would bet on it going up, but on the short or medium term it is quite uncertain. If you may live there for less than a decade, value change is more of a risk than a benefit.

Break even point: As you mention that you will buy a house for 200k, I will assume it is not in the heart of a major city, and that renting it out may not be very attractive. However, I will also assume that it is not the middle of nowhere, and that it will only take a reasonable amount of time to sell the house. So if you want to move out, you will probably sell it at a reasonable price. In this case a rule of thumb is that living in an affordable house is usually a good idea when you live there for more than 5 years. (Is it likely that you will find a partner in this period of time, and will you live at your place then, or somewhere else?)

Conclusion

Buying a 200k appartment would leave you completely cashless after you move in, something I would not recommend unless you can depend on your parents for instance to 'bridge the gap' when your cashflow dries up. From a monthly expense point of view you are probably going to be OK, as long as you survive the short run. And financially it only makes sense if you are going to live there for a while, and are fairly confident in your position in the labour market.

I would personally recommend you to think hard on your family situation, and only buy a house if it leaves you with some cash in your pocket.

2

Consider looking into real estate investment trusts (REITs). Assuming that they are available for the area that you are considering they simplify the process of investing in this sector. Your money pooled with other investors and then invested in a broad range of properties.

If you go this route make sure to only by REITs that are traded in the open market (liquidity and an honest current valuation). Even better I would consider a index fund of REITs for more diversification. Personally I do use a US based REIT index as a small part of my portfolio so as to get better diversification.

0

No one has addressed the fact that your loan interest and property taxes are "deductible" on your taxes? So, for the first 2/3 years of your loan, you will should be able to deduct each year's mortgage payment off your gross income. This in turn reduces the income bracket for your tax calculation.... I have saved 1000's a year this way, while seeing my home value climb, and have never lost a down payment.

I would consider trying to use 1/2 your savings to buy a property that is desirable to live in and being able to take the yearly deduction off your taxes.

As far as home insurance, most people I know have renter's insurance, and homeowner's insurance is not that steep.

Chances are a year from now if you change your mind and wish to sell, unless you're in a severely deflated area, you will reclaim at minimum your down payment.

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