The S&P Case Shiller Home Price index was updated yesterday with data through November 2010. Here is the press release [PDF]. Here is the housing price index from 1987 to November 2010. (Click to enlarge.)
I don’t look to closely into these things or like to make crystal ball predictions, but I like to check in occasionally to see what’s happening. It looks like we are still hovering around 2003 price levels.
As 2010 draws to a close and the champagne is all gone, here’s an update on the status of our personal financial goals. I’ve been on the fence for a while about whether to continue our detailed net worth updates, and I’ve decided to reclaim some privacy and stop doing them in the previous format. Instead, I’d like to keep tracking our progress but in a opaque manner where I think everyone can still calculate their own and compare with us if desired. I’m not sure exactly how to do this, but here is a rough outline.
I think the first part of any healthy financial status should be to outline and pay off any consumer loans. We do use credit cards, but we pay our balances in full each month. We don’t have any auto loans or other forms of consumer debt.
I used to take money from credit cards at 0% APR and place it into online savings accounts, bank CDs, or savings bonds that earned 4-5% interest, and keeping the difference as profit while taking minimal risk. (By this I meant that the risk was dependent on my own actions.) I could have also used such 0% loans instead of other debt like student loans. However, given the current lack of great no fee 0% APR balance transfer offers, I am currently not playing this “game”.
As far as financial freedom goes, there are a number of ways to fund your living expenses without working. Pensions, Social Security, stocks, bonds, real estate, and so on. For us, I have boiled down “financial freedom” to be two things:
Part 1: Accumulate 25 times annual (non-housing) expenses
Part 2: Own my house / Pay off mortgage
I think it’s important to note that these two parts don’t necessarily have a number attached to them. Minimizing expenses are just as important as increasing portfolio size, as well as minimizing the amount of house that you “need”. More detail can be found in this post entitled A Quick & Dirty Plan To Reach Financial Freedom.
For Part 1, the basic idea is to assume that a portfolio can return 4% annually with adjustments for inflation. So if you have $1,000,000, that would create $40,000 a year. The exact implementation of this is more complicated, as there are several ways to help avoid portfolio depletion like annuities and adjusting your withdrawals during market downturns. Most folks won’t need a million dollars, though, if they have already paid off their house. For example, if your non-housing expense are only $1,000 per month, then you’d only need 12 x 25 = $300,000.
Back in July I was 33% of the way to reaching this goal. We are now 40% of the way. At this pace, we could finish Part 1 in less than 10 years, but we will likely scale back our income when we have kids. We’ll have to keep a close eye on those expenses as well.
Owning a house isn’t for everyone, but I think that if you are geographically stable, it can be a great way to become financially independent. Once you pay off the house, then your housing “expense” is mostly taken care of. (There is still maintenance and property taxes.)
We have owned our house for about 3 years now, having taken out a 30-year fixed rate mortgage initially with a 20% downpayment. Since I want to retire before I’m 50, I need to speed things up. Over the past year, we have made additional payments toward principal, as well as lowered the interest rate to 4.75%. These prepayments have been irregular lump-sum amounts, although I agree an automated plan is easier to maintain. The outstanding loan principal is now 67% of the purchase price. If we were to continue the original minimum-required payments, our home would be now be paid off in 21 years. This is good, as we can support that payment on one income.
The following is a guest post from Investor Junkie, who shares the details of his first condo purchase. His blog discusses all things related to investing and being an entrepreneur.
The time was 1998. I was 28 years old, and still living with my parents in Long Island, New York. I did so, not because I had to, but because I wanted to. Even my girlfriend at the time was bitching I should move out as I made enough money. Needless to say that girlfriend wasn’t my girlfriend for much longer.
Unlike all of my other friends who enjoyed paying rent, I was on a mission. I wanted to own a condo as to me real estate is one of the best ways to increase my wealth. I made many sacrifices and pinched every penny I could. I knew exactly the area I was in the market for, and what type of property. There was a 134 unit condo complex next to the local train station. This made a primary location for New York City commuters like myself since, by railroad it was only an hour away. I got a hold of a friend of the family who was a real estate agent, and asked for comps of sold units for the previous year. The two bedroom, one and half bath units all sold for around $125k, plus or minus $5,000. With these condos the primary variable was how much was renovated since all had the same layout. These units were built in 1973, and were at the ripe age of needing must done improvements. I spotted an inefficiency in the market, and knew my target.
I looked at 5 other units in the condo complex before I found “the one”. After a few months after my initial research I spotted a unit for sale in the local newspaper. It was for sale by owner, and had an open house that Friday. After work I quickly hopped over to the place to take a look. As I entered the unit the first thing I noticed was an older couple walking out in disgust. I walked into the unit, and quickly figured out why. There was the distinct smell of an animal’s wet fur. I found from the presenter this unit had been a rental property since it was built. Everything was original, and nothing had been upgraded since it was built. Too my surprise the smell came from the living room, which had a caged ferret in it. After I inquired about the ferret, the presenter of the property explained to me the tenant had his two sons living all living in this two-bedroom apartment. This explained why the living room ceiling had pinholes in it. It appeared the tenant used a blanket to cordon off the living room into a makeshift bedroom for the oldest son. The story gets better from here.
[Read more…]
The following is a guest post from reader TFB, who blogs anonymously at The Finance Buff where he covers investing, taxes, banking, mortgage, insurance, and other personal finance related topics. You can find more of his posts about mortgage refinances under the “refi” tag.
I refinanced my mortgage recently. The rate on my 15-year loan went down from 4.25% to 3.75%. With a lender credit covering the bulk of my closing cost, I spent about $200 on a refinance that will save me over $1,000 interest every year.
Some people don’t like to refinance their mortgage even when the rate is lower and there’s no fee, because they fear it’s going to reset the clock for the eventual payoff. They reason that when they refinance to a new loan, the payoff date will be extended, and they will end up paying more interest over the life of the loan than they would if they didn’t refinance.
In some cases it’s true. For example, if you are five years into a 30-year mortgage at 5.25% with $200k principal balance remaining, keeping the current loan at 5.25% for another 25 years will cost you additional $159,384 in interest. Refinancing the $200k principal balance into a new 30-year loan at 4.5% will push out the payoff date by five years and cost you $164,813 in interest in 30 years. By refinancing, you end up paying more interest.
| Old Loan | New Loan | New – Old | |
| Principal Balance | $200,000 | $200,000 | $0 |
| Rate | 5.25% | 4.5% | -0.75% |
| Years to Pay Off | 25 | 30 | +5 |
| Remaining Interest | $159,384 | $164,813 | +$5,429 |
It doesn’t have to be that way.
This chart from Clusterstock (via Carpe Diem) shows the cost of college tuition comparison to historical housing prices and the Consumer Price Index (CPI) over the same period. The CPI is designed to track our cost of living by estimating the average price of consumer goods and services purchased by households. Everything was normalized to 100 starting in 1978.
While housing went up 4x at its peak (~400), college tuition has gone up over 10x. Instapundit Glenn Reynolds says the higher education bubble is about to burst:
It’s a story of an industry that may sound familiar. The buyers think what they’re buying will appreciate in value, making them rich in the future. The product grows more and more elaborate, and more and more expensive, but the expense is offset by cheap credit provided by sellers eager to encourage buyers to buy.
Buyers see that everyone else is taking on mounds of debt, and so are more comfortable when they do so themselves; besides, for a generation, the value of what they’re buying has gone up steadily. What could go wrong? Everything continues smoothly until, at some point, it doesn’t.
Yes, this sounds like the housing bubble, but I’m afraid it’s also sounding a lot like a still-inflating higher education bubble. And despite (or because of) the fact that my day job involves higher education, I think it’s better for us to face up to what’s going on before the bubble bursts messily.
The college tuition prices being tracked in the chart was done by the CPI for US cities for “College Tuition and Fees”. According to this BLS.gov link, this tracks actual expenditures by households, and not some measure of median college tuition, which is often just the “retail price” before various forms of financial aid and/or scholarships.
Another hot topic is the rapidly rising cost of health care. Well, college tuition CPI beats that too, from this Wikipedia chart:
I know that I’m scared to imagine what college will cost in another 20 years. Dealing with this issue will be tricky, with huge amounts of easy government credit being given to 18-year-olds that are being told by everyone (including parents) that it is totally worth it. For many people, it will indeed be worth it. For others, not so much.
In my humble opinion, it also seems obvious that this trend can’t survive forever. But will it burst like a bubble? Perhaps if the government turns off the loans suddenly, but that seems unlikely. I like Reynold’s idea that there may be an educational revolution with the internet, online coursework, and changing educational standards.
While doing some more research into a possible refinance or loan modification, I ran across this chart of historical mortgage rates from 1986 from HSH.
Before, I stated a source that said the 30-year fixed-rate mortgage (FRM) averaged 4.56% for the week ending July 22, the lowest since Freddie Mac started tracking the mortgage in 1971. But that was with 0.7 points, while HSH shows 4.97% with only 0.09 points. While we are experiencing some of the lowest rates in a very long time, I also keep reading about how underwriting has made actually getting approved for a loan harder than ever. But according to this article, some “FHA, Fannie Mae and Freddie Mac borrowers who haven’t refinanced their home before may be eligible to refinance without having to get a new appraisal.” Like I say often… it doesn’t hurt to ask!
I’m still excited about my new 4.75% mortgage rate (that I would never have gotten if I didn’t pick up the phone and ask) since I’m looking to stay in my house for a while, but I am also curious as to what will happen to housing prices when rates start to go back up…
Sometimes saving money just involves being lucky. I don’t really keep up with mortgage rates anymore, but last week an e-mail subject line just happened to catch my eye that mortgage rates are at “record lows”. I always figured that my 5.125% rate was so low that another refinance or loan modification probably would never be worth it, but it turns out that rates are so low they just might. Here’s a quick snapshot of rates from a Wall Street Journal article on 7/16/10:
The 30-year fixed-rate mortgage averaged 4.57% in the week ended Thursday, unchanged from a week earlier and down from 5.14% a year earlier. Rates on 15-year fixed-rate mortgages were 4.06%, extending the lowest point since Freddie started tracking it in 1991, and down from 4.07% last week and 4.63% a year earlier. […] To obtain the rates, the mortgages required payment of an average 0.7 point. A point is 1% of the mortgage amount, charged as prepaid interest.
has ads now for 4.25% fixed for 30 years and 3.75% for 15 years. As for me, I might be able to get my interest rate below 4.75% and have a “breakeven” period of less than 3 years. I’m awaiting official paperwork. Ask your loan servicer and/or mortgage broker what they can do for you. Can’t hurt to ask!
Meanwhile, I was playing with the Refinance Breakeven calculator over at DinkyTown and found out that there are multiple definitions of “breakeven period”. Before, I simply figured that a refinance would cost X dollars upfront in fees and closing costs, but would save me Y dollars per month. Divide X by Y, and you’d have a breakeven point. For example, if it cost you $2,400 in fees but saved you $100 per month, you’d break even in 24 months. Past that, you’re saving $100 every month. In this case, if you plan to keep your mortgage for longer than 24 months, then refinancing makes sense.
However, there are actually four possible breakeven methods presented:
First, I should add that you could complicate things even further by assuming any money not paid out immediately could earn a rate of return (savings accounts, CD, etc.) But that would make my head explode, so I won’t. The calculator suggests that methods #2 and #3 are most commonly accepted, and I would tend to agree. If you are sure that your interest is 100% tax-deductible (you exceed the standard deduction provided by the IRS without it), then you should use the value from #3. Otherwise, something in between #2 and #3 is probably the most accurate.
Method #4 compares with another theoretical situation that only applies if you really want to make a lump-sum prepayment and keep the higher monthly mortgage payment over a shorter mortgage term. For many people, the goal is to lower the monthly outlay and improve cashflow as well as save money on interest.
Time for another net worth update… last one was back in April.
Credit Card Debt
I used to take money from credit cards at 0% APR and place it into online savings accounts, bank CDs, or savings bonds that earned 4-5% interest (much less recently), keeping the difference as profit while taking minimal risk. (Minimal in regards that the risk was under my control.) However, given the current lack of great no fee 0% APR balance transfer offers, I am currently not playing this “game”.
Most credit cards don’t require you to pay the charges built up during a monthly cycle until after a grace period of about 14 days. This theoretically provides enough time for you to receive your statement in the mail and send back a check. As this is simply a real-time snapshot of my finances, my credit card debt consists of just these charges.
Retirement and Brokerage accounts
We recently converted our Traditional IRA balances to Roth IRAs, as the income restrictions were lifted this year. The choice to convert was rather simple for us, as we had non-deductible contributions that will now be able to be withdrawn tax-free. (We still owe taxes on very modest gains.)
Our total retirement portfolio is now $289,277 or on an estimated after-tax basis, $249,976. At a theoretical 4% withdrawal rate, this would provide $833 per month in after-tax retirement income, which brings me to 33% of my long-term goal of generating $2,500 per month.
Cash Savings and Emergency Funds
We are now a bit below a year’s worth of expenses (conservatively estimated at $60,000) in our emergency fund. This is after withholding some money for paying taxes on the Roth IRA conversion above, and also for undisclosed, one-time recent expenses. It’d be fun to say that we picked up a convertible or something, but the reality is much less exciting. 😛
Our cash savings is mostly kept in a combination of a rewards checking account (with debit card usage requirements), a SmartyPig account at 2.15% APY currently, or in a 5-year CD from Ally Bank, which despite the long term still provides a very competitive yield even if you withdraw early before the 5 years is up. (See here for more details.)
Home Value
I am still not using any internet home valuation tools to track home value. After using them for a year and finding them unreliable, I am back to maintaining a conservative estimate and focusing on mortgage payoff. If we get some positive cashflow after retirement savings, I do want to pay it down faster.
Another problem with escrows is by mixing it in with your mortgage payment, it can obscure what you’re paying towards property taxes and homeowner’s insurance premiums. Do you know how much you paid in property taxes this year versus the last? Or how much of each month’s mortgage payment goes towards taxes and insurance? I probably only knew within about $500 the annual total.
Property taxes are usually based on an quick assessment of how much your home is worth. However, local governments rely on these taxes to fund much of their services, so they have an incentive to keep this value as high as possible. With housing prices dropping, the number of property assessment appeals last year doubled in many states.
Should you appeal as well? Here are some quick tips on getting your property tax bill lowered:
Have you appealed already? Share your story in the comments below. I hope it’s a success story, but all experiences can be helpful to others.
Sources: AARP, ConsumerAffairs
In response to my earlier post on Should You Manage Your Own Mortgage Escrow?, reader James e-mailed me a trick he found to save some money even if you are required to have an escrow account:
Even if you’ve got an loan that requires an escrow account for the life of the loan, you can still save some money by beating your lender to the punch on payments. Most homeowners insurance companies provide a discount (about $50 in my case) if you pay your homeowners insurance premium yourself on-time or in advance. They get their money sooner that way. Payments made from escrow don’t usually post until 30 to 60 days past the actual due date.
You can make this payment using a credit card, and then provide proof of payment to your lender, who will then reimburse you from escrow instead of paying the insurance company. If you time it right, you can float the payment on a credit card as a regular purchase, and not incur any interest by paying it off as soon as you receive the payment from your escrow account. Presumably, you could do the same with property taxes.
I called my homeowner’s insurance company (State Farm), and they said they don’t offer such a discount. But maybe yours does?
Housing prices. Are they still falling? Stable? Best time to buy ever?
Barry Ritholtz of The Big Picture thinks that housing prices have much further to fall. Here’s part of his analysis:
Today, residential real estate confronts numerous headwinds: Credit, once given to anyone who could fog a mirror, is now tight. Hence, demand is far below what it was during the past decade. Home prices are still unwinding from artificially high levels, and remained over-priced. Inventory is elevated. Unemployment remains high. A huge supply of shadow inventory is out there: Speculators and flippers who overpaid but have held onto their properties await modestly higher prices to sell. Bank owned real estate (REOs) continues to increase. We are barely halfway through a decade long foreclosure surge.
He also shares some historical data from 1977 to 2010 that support his view. The top graph below is home price appreciation divided by rent as measured by CPI. If the ratio is rising, it means that home price appreciation is rising faster than rent. If the ratio is falling, it means that rent is rising faster than home price appreciation. Then there is the price/income ratio, illustrated by the bottom graph below. In both cases, we are currently still above the historical mean.
From 1977 to 2010, the median US home price was 4.1 times median household income. But as the chart below shows, Home prices are still above that mean. Oh, and that mean is artificially elevated due to the 2002-07 boom. Same with home prices relative to rentals, or housing value as percentage of GDP. Further, we should not assume that prices will merely mean revert back to historic levels. In most markets, a near 3 standard deviation price move is resolved not by reverting to the mean, but by by careening far below it.
I recently got a refund from my mortgage escrow servicer, as my property taxes decreased. This reminded me about how I always used to read that you should manage your own escrow account. I don’t think I have a choice about the matter right now, but I tried to research all the pros and cons below. Did I miss something? Share your own reasons in the comments, and don’t forget to vote in the poll below!
Escrow Definition and Background
When you borrow money to buy a house, the lender holds your house as collateral in case you stop paying them back. However, in certain cases the lender can lose control of their collateral. If nobody pays the city and/or county property taxes, the local government can seize the house and become the first lienholders on the property. Similarly, if the house burns down or becomes flooded without insurance, then they’ll be in trouble too. This is why most lenders require the funds for these types of charges to be automatically collected each month and placed in escrow, until the respective bills are actually due.
Now, most homeowners of course want to pay these things, but as with other big bills, many people may not plan ahead and later find themselves unable to pay. Some lenders may allow you to manage these things for yourself once you reach a certain amount of home equity (loan-to-value ratio) or if you pay them a fee or a higher interest rate.
The Real Estate Settlement Procedures Act (RESPA) provides several requirements regarding escrow. The maximum “cushion” a lender can accrue is for 1/6th of the total amount paid out, or approximately two months of escrow payments. While some states require interest to be paid on escrow account, RESPA does not.
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