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Can You Buy Too Little House?

December 29th, 2007 at 09:47 am

There's quite a bit of advice out there about how to avoid buying too much house.

But what I've been pondering lately is whether you can buy too LITTLE house? By little, I'm referring to house value, not size.

There are no "rule of thumb" answers to this question that I'm aware of, and as far as I know none of the mainstream PF writers have written about it. So, this is a "think outside the box" question. Any thoughts or opinions any of you can offer, no matter how off the wall, would be very much appreciated!

As I have pondered this question so far, my answer wavers between "a qualified no" and "well, maybe yes."

I say "qualified no" because there are a few situations where the answer would in my eyes obviously be yes:
- If you are living in a house that is a health or safety hazard (a rat-infested firetrap, for example) and you can clearly afford to buy a better house, then yes, I think you have too little house.
- If you are horribly miserable in your house (family of 8 crammed in to a 1-bedroom house, for example) but you could easily afford a more comfortable house, then yes, I think you have too little house.
- If you buy a house that is very poorly constructed and corners have been cut to bring the house price down, then yes, I think you are buying too little house short-term (tho' given what you will end up paying in repairs, you may be buying too much house long term).

But beyond these fairly obvious (in my eyes) and extreme examples, can you buy a house that is too low in value? As long as the house is safe, comfortable, and well-constructed, does it matter? If I ended the discussion here, it may seem that the answer is "well, no, duh, you can't buy too little house."

But ... Then I start thinking ... Is it possible to have too LITTLE of your net worth tied up in your primary residence?

Historically, house values have kept pace with inflation. You can get better returns than that with almost any other investment, even extremely conservative ones such as TIPS or MMAs. But on the other hand, house value increase does have the advantage of being tax-exempt in many (most?) cases. So this is why I say "well, maybe yes" you can spend too little on a house. Perhaps there is a minimum percentage of net worth you should consider not going below when buying a house?

I'm relying on my memory so this may not be 100% accurate, but I read some Census Bureau data that said the average American household has about 40% of it's net worth in home equity, and the highest wealth households have a bit less than 20% of their net worth in home equity. Does this data mean anything???

And ... When will I stop grinding my teeth when I start pondering how much to spend on a house? Big Grin Please don't suggest that I stop thinking about it so much. I just can't conceive of making the single-largest purchase of my life without thinking about it from every conceivable angle!

14 Responses to “Can You Buy Too Little House?”

  1. Toyguy1963 Says:

    I'm not sure if any of that really matters. I think when someone buys a house they should get one they like in general. That meets their needs as far as family size and such. And most of all that they can afford to pay for.
    My house is a little small and not really put together very well. But Its plenty big enough for me and I can afford it.

  2. Joan.of.the.Arch Says:

    Our house equity is a small portion of net worth, and will be an even smaller portion by the time we have 100%. As much as I like our decision to buy as we did, this is a question that occurs to me sometimes, too. I think that might be due to the influence of people who buy larger/more valuable earlier in life with the intention to downsize later, using the extra cash as needed, perhaps partly to fund their retirement needs. My house is very near the bottom of value for our area. I could not expect in the future to sell my place to buy a less expensive one. Could that be a mistake? Not sure. And value could actually go down, as it can anywhere. I'm in a deep urban area. What will be the forces acting on my home value in the future? Hard to predict.

  3. nance Says:

    I'd look at buying the least expensive house in a very nice area, rather than the nicest house in a not-so-nice neighborhood.
    We purchases a very nice house that was a total fixer-upper in a not very nice neighborhood, on a lake, in Texas. Family did all of the work, and it ended up being a beautiful place, but it took over a year and a big reduction in price to sell it because of the neighborhood. If it had been anywhere else, it would have brought three times what it brought. A house in a very nice area will appreciate in value.

  4. Ima saver Says:

    When we build a house the first thing we look for is location,location, location. Because this is a rural area, there are trailers and junk cars everywhere. We usually build in a nice subdivision. We try to get land that has something going for it, on a creek, with a mountain view, etc.
    Buy a house that others would like, a resellable house. For example, I could care less if I have a fireplace, but everybody else wants one!! Everyone wants a fair size kitchen and at least 2 baths.
    Gary just finished a nice 1200 square foot house and he did it for about $140,000. Now he is going to finish the full basement for about $20,000 more. They will have a 2400 sq. ft. new house for about $160,000. (they owned the land)

  5. Joan.of.the.Arch Says:

    "Location, location, location" and buying the inexpensive home in a very nice area work for short term planning. And if it is true that the average American moves every 6-7 years (which I doubt is the case among homeowners, then those two rules of thumb generally work.

    But I guarantee you that there are some pretty dumpy, insecure areas to live in that were not too long ago very nice areas. That is what I am referring to when I say you cannot predict home value in the future. My own neighborhood was full of retirees when I first moved here. They had raised their families here. The woman who sold to me had even been raised in the house she was seling me.

    This immediate neighborhood stayed stable and values rose over the years because the same people stayed and took care of their places. Not too far away is a street where, when I moved to this city almost thirty years ago I thought, "Wow! Rich People Be Here." It looked like a good place to buy. Now though, I think something more like, "Wow! Poor People Be Here."

    For someone like me who would like to buy a house and live in it for thirty years or more, I just don't think you can judge entirely by present location and niceness. It could change. As a matter of fact, the area where I first lived was ghetto. But today, it has all new single family houses with prices starting well above what my house would fetch in this stable neighborhood. Things change. Investments have risks, and that includes the real estate that one lives in, hoping that it might someday return a profit or at least hold value.

    You could spend a little and wind up with little, a moderate amount, or a lot. You could spend a median amount and wind up with the same-- little, moderate, or a lot. Evidently it can happen even if you spend a lot. Maybe the trick is being able to see when to hold on and when to sell. (But I'm so glad the generation before me was satisfied with what they had, held on, took care of it. I believe they did a service to their own generation and to mine by not seeing their homes only in terms of dollar signs.)

  6. baselle Says:

    I think its a crap shoot taking into account the future of your location, the tax base of your location and your future, too.

    You buy big in a great neighborhood you run the risk of not being able to afford your mortgage and taxes through lean times and you run the risk of it not fitting your future lifestyle - you aren't able to physically keep up your property.

    You buy big in a bad neighborhood and you run the risk of it becoming nearly worthless or you not being able to get services for the taxes you pay. If you pay taxes for police services but the police don't come because its a crappy neighborhood...

    You buy small in a great neighborhood and become dissatisfied by watch the Joneses, or your tax assessment goes through the roof, or the neighborhood changes and there you are.

    You buy small in a bad neighborhood and wait for things to get better, maybe. But then what?

    Buy what you enjoy and what you can comfortably afford. Personally, I don't think you can buy too cheap if the size is perfect for you.

  7. tiki Says:

    I'm in the same situation as Joan O.T.A., with a cheap but serviceable house whose primary value is that it's a good-enough place to live in, and will be paid off soon. We're not planning to sell -- buying a bigger house would keep us in debt, and we probably won't find a better deal in our neighborhood, which is close in to our jobs.

    The best thing about our cheap place is that, if we pay our mortage off in the next ten years or so, we'll be living in a free house -- with a big chunk of uncommitted money to do with as we please (or to continue to save). Not possible with a McMansion!

  8. scfr Says:

    Sorry I didn't jump back in to the discussion sooner, but we spent the afternoon and evening doing what we seem to be doing most days these days ... Looking at houses! Thank you so much for all of the comments. It gives me a lot to think about, and it's very reassuring to know I'm not the only one who thinks about these things!

    It might be easier if I saw my house as either strictly a place to live or as strictly an investment, but I think of my primary residence as BOTH!

    Also, my DH's thinking on how much to spend has been like a pendulum, swinging wildly from one extreme to another. I've realized that a big part of my job during this househunt is to figure out at what price point do I stick out my hand and grab the pendulum to stop it from swinging.

  9. monkeymama Says:

    I read this earlier and have been pondering.

    I think as mentioned above, location is pretty key. Beyond that, without a crystal ball, who knows.

    I just wanted to add that moving to a Lower COL Area really changes the rules. I am just not sure it matters that much. For us when we made the move, we didn't change our budget at all. At home we felt we could afford $300k comfortably. At home that was a small condo. HEre it was a large house that was everything we thought we would ever need. We didn't change our thinking at all, just went with the price. I am sure most people would say we bought too much house or tied up too much equity in our home. BUT from our perspective it was dirt cheap. We had been looking at paying $500k for a MUCH lesser home. We got out easy. The traditional net worth rules don't apply in this case.

    We have talked often about moving again. For a long time we could have put a good $400k in the bank and paid cash for a similar home elsewhere. (Maybe $200k cash). I am sure the "rules" are much different. But who cares. The only reason we would leave the area is for more financial freedom. The point would be to put much less into a house ("too little" house).

    Anyway, for this reason I think that you can't get caught up in the net worth numbers. Go for something you like. Set a firm price limit. Go from there. I remember when we moved here we were rather enticed by the $400k houses. We could have stretched easily enough for those. (Though those houses hit $1 million for a time too! But I'm still glad we stuck with a lower price). But we finally set a firm limit of $300k, so we wouldn't get blindsided by some of the REALLY nice houses that we really could have afforded. We just had to remember why we moved here, to get a cheaper payment. Not to buy more house.

    & beyond all that, remember that this is no a forever permanent decision. If you buy too little, you can always move up later. If things change, you can reconsider. Not that we want to move or sell property more than we have to. But I wouldn't get too stressed about finding the perfect house. All you can do is try your best. You might find it in a few years; so be it.

    Finally, don't go too small for the #s, if it's not what you really want or comfortable. I think that's why it's good to set a price limit. Then you can find the most luxurious/perfect house in that price limit without guilt. Our price limit didn't fit any personal finance formula. Just our comfort level. & I can say it was very comfortable, even 6 years later.

    Incidentally we ended up paying $40k less than our price limit because we found the house that had it all finally. Phew. But yeah, I NEVER want to house shop with dh again. We don't agree on much. LOL. Good Luck!!!!!!!!!!!

  10. scfr Says:

    Thanks monkeymama.
    Yes, you're right that moving to a lower COL area really does change the rules. And paying cash makes a really big difference too. When we bought our last houses (a condo & then a house) we really seriously considered cost and affordability, but that consideration gets magnified many times over when you are paying cash. In fact, now that I've been on both sides (having a mortgage and paying cash), I'd go so far as suggest that people who are buying a house with a mortgage pretend that they are going to be paying cash; if they did that, I'll bet that many people would end up buying much less house.

  11. thriftorama Says:

    I just had this conversation with my mother in law. We sold our house in New Orleans after the hurricane and moved to Ohio, where things are soooo much cheaper. We sold our house for $325,000. We paid $154,000 for our house in Ohio, which is actually about 500 square feet bigger and needs a lot less work. We were able to use our insurance settlement, plus the revenues from the Nola sale to buy our Ohio house outright. Yes, 32, with no mortgage. My MIL was horrified. She said "You're supposed to buy a more expensive house, not a cheaper one. That's how it works!"

    Well, maybe for some folks. But when you move to a cheaper city, no. Buying on price rather than based on your needs makes no sense. And, if you're like us. We have other things we want to do with our lives than slave away to pay an "appropriately"-sized mortgage. We want freedom, and without a mortgage you have a lot more of it.

  12. tiki Says:

    thriftorama, you said it.

    We've had exhausting conversations just like this with a "friend" of ours, who keeps jeering at us because we bought a condo instead of a house, and are planning to pay it off. This guy keeps telling us that we're supposed to buy the biggest thing we can afford, and keep paying on it forever. "We want to be mortgage free within x years," we tell him, and he just stares blankly at us, drooling, or tells us that's crazy. May be crazy for him--his mortgage is gigantic and roommates are a necessity, as he's recently discovered. Nothing wrong with that, if that's how you want to do it. We don't lecture him on HIS choices, however.

    Why do people who are resigned to remaining in debt permanently constantly give other people smug and misguided (if not flat out wrong) financial advice? It's one of the mysteries of the universe.

  13. thriftorama Says:

    Well, Tiki, I wonder the same things. Financial institutions must have done a really good job selling people these ideas. Most people cite the tax deduction as a reason to upsize the mortgage, but if you look at it, if you are in a 25 percent tax bracket, you only save 25 cents for every dollar you pay in interest. The other 75 cents goes right out the door. I'd rather put that money in the bank!

  14. scfr Says:

    Thanks for the additional comments. Great point about the mortgage interest deductions on the taxes; it's a pet peeve of mine that so many smart people overestimate the tax savings of the mortgage interest deduction. They forget that everyone is entitled to a pretty hefty STANDARD deduction, so your itemized deductions only reduce your taxes to the extent they exceed that.

    thriftorama - In our case, it's actually not a question of "appropriately sized mortgage" since we'll be paying cash. Like you, we moved to a much less expensive area after selling our paid-off home. On top of that, we are planning to downsize to a smaller home. Hence the question of whether your home (paid-for) can represent too small a percentage of your net worth? I think the answer is "no" but can't help fretting whether there's something I'm missing.

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