Start homeownership as young as possible

San Francisco Home Prices After Facebook IPO

Interest rates keep on going down. Take advantage.

My biggest real estate regret was not buying a two bedroom, two bathroom, double balcony condo with a view of Manhattan’s Chrysler Building in 2001. I was 24 and could have put down 10% on the $760,000 property that is worth over $2,000,000 today. Now I’m almost 40 and no longer have a desire to “grow into my debt” through aggressive hustle. Instead, I’m all about paying down debt and simplifying life.

I’m a huge fan of real estate because you only need to do four things to grow your wealth: 1) come up with a downpayment, 2) pay your mortgage on time, 3) try not to buy at the top of the market, and 4) own your property forever. If you do these four things, I’m confident that thanks to inflation, your net worth will be healthier than if you just rented.

As I just finished refinancing one of my properties, I decided to put together a “progress chart” to see where I stand with this one. A couple folks mentioned $850,000 is still quite a large mortgage. I agree. That’s why I’ve come up with an accelerated pay down plan. I’m all about creating goals, making charts, consulting with others, and tracking my finances to make sure I’m on target. You should do the same. It’s very enlightening.

What I realized from this latest exercise is that perhaps I’m spending too much time trying to build wealth with too many different asset classes. If I just focused on optimizing this one property in my portfolio, there’s a good chance it alone could make me a multi-millionaire!

Why You Should Buy Real Estate

When it comes to building wealth, everybody wants simple. Understanding real estate as an investment is about as simple as it gets.

1) Real estate prices move in 7 – 10 year cycles.

2) There’s a natural tailwind due to inflation.

3) You want to own real assets because money is only a medium of exchange that loses value every day due to inflation.

4) With inflation, rents naturally rise. If you stay a renter, your costs will always go up quicker than a homeowner’s costs, making retirement a little more difficult to manage.

5) Despite inflation, interest rates keep coming down. This is the goldilocks scenario for all real estate investors who get to take advantage by refinancing their mortgages or getting record low mortgage rates for purchase while also raising rents.

6) Humans are undisciplined savers and spenders. Having a mortgage forces you to save because each month you are paying down principal.

7) After you’ve finished paying off your property, if you wish you can add the full value of the property to your net worth. Everybody should make this calculation to see what their minimum net worth will be.

8) Living in your house doesn’t require investment work. Living is just life.

Here’s my progress chart for a property I bought at the end of 2004 for $1,525,000. For the six years prior, I saved and invested 50-75% of my after tax income in order to one day break free from an unsustainable career. The numbers are estimates within 10% of true value/cost.

Housing Chart Analysis

* In 2005, I’ve already been an adult for 10 years. I missed my opportunity to buy a place in Manhattan at age 24. At 26, I finally bought my first property in SF, a 2/2 condo. The place was nice, but I regretted not buying to my maximum potential because I was afraid. Therefore, at age 28, I went all-in and bought a single family home for $1,525,000 by taking out a $1,220,000 mortgage. It was kind of nuts to have over $1,600,000 in debt at such a young age. But I felt bullish about my future, having just received a promotion at my firm. No risk, no reward.

The total cost to own after deductions was about $4,800 including property taxes, insurance and maintenance. Given you can only deduct $1,000,000 in mortgage indebtedness, my goal was to get the mortgage down to $1,000,000 sooner. However, after the $305,000 downpayment, I had practically nothing in the bank so I didn’t make extra principal payments the first five years.Instead, my immediate goals were to work hard at my job so I wouldn’t get fired and to replenish by savings account by saving 70%+ of my after-tax income.

If you take on huge debt, your motivation to work hard will shoot through the roof!

* There is an opportunity cost to sinking $305,000 into a downpayment. In my case, I would have only invested this downpayment money in more conservative asset classes like CDs, treasuries, or muni bonds yielding ~4% at the time. So yes, I could have made about $1,000 a month risk free, but I wanted to swing for the fences while I was still young. I was either going to blow myself up or get rich sooner, rather than later.

* I had two good years of property price appreciation until the financial meltdown chopped off ~22% from the 2007 high. I estimated my property’s value declined to $1,400,000 – $1,450,000 in 2010 because that’s the value I was able to convince the city to agree on to lower my property tax bill for several years. The downturn didn’t feel good, but it didn’t hurt my lifestyle. I still enjoyed living in my place with a fixed payment. I just locked down all superfluous spending. My $6,000 vehicle named Moose was good enough! When you never plan on selling, devaluations don’t hurt as bad. Financial Samurai was born during this time of turmoil.

* By mid-2011 things started to recover. The S&P 500 bounced off its lows and people were interested in buying property again. Interest rates declined, and I refinanced my property before I left my day job in 2012. 2012 was the time I seriously thought about selling my house given I didn’t have a steady W2 income anymore and Facebook had just gone public. Having $1,075,000 in debt just from this house without having a day job was concerning. Still, all I thought about was simplifying life! Thankfully, I didn’t sell because a nice five year bull run ensued. In retrospect, I should have bought more property in 2012.

* In 2015, despite having over $1,000,000 in equity in a property that I valued at $2,300,000 compared to online estimates of $2,800,000, I still couldn’t refinance my 5/1 ARM 2.625% mortgage because I didn’t have two years of freelance income under my belt. I was disappointed, but felt strongly that another opportunity would arise before the fixed rated adjusted in June 2017.

* In 2016, I finally refinanced my mortgage to 2.375%. The cost to own dropped to only around $3,000 a month after deductions (mortgage interest cost of $1,682, property tax of $1,600, $200 for insurance, and $200 for maintenance). Meanwhile, estimated rent for the house now ranges from $8,800 – $10,000. It is a blessing to be able to lower costs through a refinance and raise rents.

* Unfortunately, I now see the real estate market declining for the next two years as global growth softens, private tech/internet company valuations decline, layoffs increase, more condo inventory fills the market, and a dearth of liquidity events like IPOs keep startup employees illiquid. We’ve risen too fast, too soon. It’s time for some retrenchment.

* After a 10% – 15% correction, SF real estate bouncing back to a reasonable 3% – 5% a year growth rate starting in 2019. I do have plans to buy another property during the winter of 2017/2018. The idea is to front-run the thousands of Uber, Airbnb, and Pinterest employees before their IPO lock out periods are up. For the next two years, I plan to save as much as possible to have the largest downpayment possible for a single family house the typical 30 – 40 year old techie wants to buy. Maybe I’ll be too tired by then to take on another asset. But it will be nice to have the optionality.

* By 2025, I plan to completely pay off the $1,220,000 original mortgage. I’ve always had a goal to pay off this property by age 50. The ongoing cost to own this property will drop to around $2,000 a month post-deductions. $2,000 is still a lot largely due to property taxes, but it’s less than the $10,000 a month it would cost to rent the property. Further, I have the option to sell.

* If I do nothing else, this property alone will make me a small fortune. I’ll need it, because in 10 years, $4 million might be the new $1 million. Sure, there might be a massive earthquake, a fire, or another huge economic collapse between now and 2025 that will destroy my plans. Thank goodness for insurance and risk-free assets. But if I stick to the program, there’s a real possibility that the scenario I’ve created in this chart will come true. Now it’s your turn to create your own scenario.

Zillow historical price estimate of my property. Seems all over the place and $500K too high.

Automatic Wealth Building

I’ve made my bet about where real estate prices are going over the next 10 years. Now it’s time to make bets elsewhere for diversification purposes. We are now near the top of the real estate cycle if not past it already. Unless you plan on using my spray and pray method to take advantage of desperate sellers with low ball offers or find a fixer with great upside potential, I do not recommend buying now. Instead, wait until about 2018 when real estate agents and sellers are no longer in denial.

When we are young, time is on our side. But once we hit middle age, time starts becoming our enemy. We lose our enthusiasm and energy the older we get. We need time to ride out the cycles. We need time to build equity. We need time to take advantage of refinancing opportunities. All I want to do as a 39 year old fella is relax! Once we’re past 55, it becomes harder to justify buying a property because we might die before we pay it off.

Save as much as you can, figure out where you want to live for the next 10+ years, and get long inflation by buying at least one property as young as you possibly can. If you don’t invest a single dollar in any other asset class, at least you’ll end up with a fully paid off property within 30 years to provide some financial security. If you can build a diversified net worth, all the better!

Shop around for a mortgage: Mortgage rates have collapsed after Great Britain voted to exit the EU. Check the latest mortgage rates online through LendingTree. They’ve got one of the largest networks of lenders that compete for your business. Real estate is a much more stable asset class that provides utility. Just make sure your cash flow is under control.

Interest rates keep on going down. Take advantage.