The truth about Bay Area real estate appreciation (Los Gatos: condo, townhouse)

[Perma Bear]

Originally Posted by simboticus

Also, you are not really paying yourself 100% of your mortgage payment. For the first 12 years or so the majority of it is going to the bank in the form of interest payments.

You pay 0% toward yourself with rent. Living in a car is a far better way to live than pay some guys mortgage

[WanderingFar]

Originally Posted by simboticus

Also, you are not really paying yourself 100% of your mortgage payment. For the first 12 years or so the majority of it is going to the bank in the form of interest payments.

Yeah, but that piece is tax deductible. Can't say that about any portion of your rent.

[ggcd951]

Originally Posted by sonarrat

In recent decades, realtors have been endlessly touting the desirability and scarcity of Bay Area real estate. Make no mistake that there are challenges here with regards to natural features such as waterways, mountains, valleys, and animal habitats, as well as onerous governmental regulations, that make it difficult to build new units. Yet the population continues to grow. That is not in dispute. Real estate is and continues to be a continually pressured resource, and this is expressed acutely with the rising cost of rent.

It would seem, on the surface, that this supply and demand equation had an equally acute effect on real estate appreciation. And, in pure dollar figures, it did. For an all-cash investor, it has never been as expensive to buy a piece of the Bay Area. Hedge funds and holding companies are overbidding against foreign investors trying to hide dirty money in a lucrative and desirable market. For the average person who wants to buy real estate, pressured by the need to come up with increasingly unrealistic amounts of money and waive any rights to inspection, it is becoming harder and harder to buy in truly desirable markets in the San Francisco Bay Area.

However, there is an interesting mechanic going on behind the scenes here. I'll give the example of my parents. They bought a 3,300 square foot, 4 bedroom house in 1989, then at the peak of a bubble, in a quiet Bay Area suburb, with a lake view. They paid $432,000. Now, in 2015, the house is valued at approximately $975,000. Most people would look at those numbers and say they won the real estate lottery and have gotten far greater appreciation than most Americans.

What those figures don't tell you is that in 1989, the average interest rate for a mortgage was 11.24%. Over the course of 30 years, with a down payment of $32,000 on a loan for $400,000, you would have paid $1,348,800 in interest and ultimately a total cash outlay of around $1.8 million by the time it was paid off. Today, if you put down $50,000 and took out a jumbo loan for $925,000 on the same house, the average rate of 4.16% would have you only paying $1,154,400 in interest, for a total outlay of around $2.1 million.

Suddenly, instead of more than doubling the value of the home, you can see that in a full 25 years the cost for the average financed buyer has only increased about 16%. Yes, they need to come up with slightly higher down payments now, but it isn't this sea change in affordability that the media makes it out to be. It's less than 1% a year change. It's true that some isolated markets have seen more dramatic growth, but realistically, they are the exceptions. In the typical family house in the typical family suburb, for a family without deep cash reserves, the cost of financing is not that much greater than it was a generation ago, despite the influx of investors and despite the consistent population growth.

The interesting thing about this whole dynamic, though, is that after 2 decades of falling interest rates, they're about to start going up again. The Fed rate is at zero and has been for years. This has kept interest rates low, and people who were fortunate enough to buy in 2011-2012 are going to be super happy for a very long time, but the Fed has signaled that it is going to tick upwards to prevent an out-of-control runup in the economy (even though that has already happened in stock valuations).

What this new trend in interest rates will mean is that suddenly, the same home at the same price will become more expensive. And if, in 25 years, housing realistically hasn't become any more expensive to finance - what is the wisdom in thinking the market will be able to tolerate this change now? What's going to happen is, buyers will still be limited by the amount the bank will let them pay, and it will get them less house than before. So these cash investors will no longer need to overbid madly to get ahead of the financed buyers, and the market will cool dramatically and immediately. The more interest rates rise, the more you will see this happen.

The people buying at the peak, now, may enjoy some short-term appreciation as Wall Street attempts to buck the trend and push gains higher. But it won't last; even they don't have that much money. San Jose has 314,000 housing units, and if they are all valued at an average $500,000, it would cost $157 billion to purchase all of them. No company has those kinds of reserves; there is always going to be a limit to how much outsiders can invest in any real estate market. What will happen then is that those buying at the peak will continue to enjoy their affordable payments, but they will be dragged very suddenly underwater, and they will be well and truly stuck if they need to sell. Further, the institutional investors, faced with mounting losses and under pressure to stem the bleeding, will divest their holdings. Guess what that is going to do.

My advice to anyone looking at this market is to carefully consider their situation and how conditions are likely to change within the next 10-20 years. I think it looks ugly. The prospect of rising interest rates without wage growth doesn't give me a lot of confidence in the future of the market. If you really just want to set down roots in a wonderful area with beautiful weather and are willing to ride out a period of turbulence and uncertainty, I won't go any further to dissuade you. If you are coming here chasing after capital appreciation and investment, planning for retirement etc., I would be extremely skeptical and hesitant to even think about the Bay Area real estate market.

you gotta include rental expenses into your equation that you forgo had you not choose to buy unless you are assuming person will be living under the bridge, and that will add up substantial when multipled by years.

[TheGreatCurve]

Originally Posted by Perma Bear

You pay 0% toward yourself with rent. Living in a car is a far better way to live than pay some guys mortgage

You're not "paying for some guy's mortgage", you're paying for a roof over your head and a place to live. Do you also think of paying for food as nothing but paying for some restaurant's or grocery store's mortgage?

[TheGreatCurve]

Originally Posted by WanderingFar

Yeah, but that piece is tax deductible. Can't say that about any portion of your rent.

Renters can take the standard deduction, which in many cases is as much as or more than the mortgage interest deduction. Besides, it's just a tax deduction not a tax credit, so you still end up paying most of the cost of the interest to the bank.

[Perma Bear]

Originally Posted by TheGreatCurve

You're not "paying for some guy's mortgage", you're paying for a roof over your head and a place to live. Do you also think of paying for food as nothing but paying for some restaurant's or grocery store's mortgage?

You get something with food. A car also has a roof.

[WanderingFar]

Originally Posted by TheGreatCurve

Renters can take the standard deduction, which in many cases is as much as or more than the mortgage interest deduction. Besides, it's just a tax deduction not a tax credit, so you still end up paying most of the cost of the interest to the bank.

At the income bracket that you'd need to consider buying, itemized deductions are worth WAY more than the standard deduction. It's a huge deal for us.

[TheGreatCurve]

So you don't get anything from renting? How about a place to live or else you'd be living on the streets freezing to death, dying of sun exposure, having to keep all of your possessions in a shopping cart, and going to the bathroom on the sidewalk?

What do you get with food? At the end of the day it's just flushed down the toilet, isn't it?

[TheGreatCurve]

Originally Posted by WanderingFar

At the income bracket that you'd need to consider buying, itemized deductions are worth WAY more than the standard deduction. It's a huge deal for us.

I was talking about just the mortgage interest deduction. You don't have to buy a house to itemize. Besides, what if you pay 80%, 90%, or 100% cash for your house?

People make such a big deal of the mortgage interest deduction when even if you pay 25% of your income to federal taxes, you're still paying 75% of the interest to the bank. Besides, what if Congress either eliminated the mortgage interest deduction or allowed you to deduct rent off your taxes, would just as many people buy over renting?

[Perma Bear]

Originally Posted by TheGreatCurve

So you don't get anything from renting? How about a place to live or else you'd be living on the streets freezing to death, dying of sun exposure, having to keep all of your possessions in a shopping cart, and going to the bathroom on the sidewalk?

What do you get with food? At the end of the day it's just flushed down the toilet, isn't it?

You won't freeze in a car or get sun exposure. Also you can easily get a gym membership to cover bathroom and shower.