Recently, whilst holidaying with friends that had young children of a similar age, we chatted about what money advice would give our kids the best head start in life.
It was interesting to hear some of their thoughts: “Never drive a new car off the showroom floor because…boom you just lost 20%”; “Settle your debts as quickly as possible”; “If you can’t afford to buy it for cash, don’t buy it until you have the cash”; “Get into a savings habit early, and let the power of compounding take effect”; “Get on the property ladder as soon as possible. You need somewhere to live, and if you can pay a bond instead of rent you are acquiring an asset.”
It was the “buying a property” one that (surprisingly) had some strong and differing opinions. We often hear from young adults just starting out in the workplace, or those that have been at it for a few years, that it is near impossible to afford property. Getting on the property ladder today for someone starting out is a lot more difficult than it used to be 20 to 30 years ago.
We concurred that an affordable home in a good neighbourhood is becoming out of reach for many young adults. This isn’t a South African phenomenon, but a global one. Buying a first-time home is becoming increasingly difficult, and governments and mortgage providers across the world are finding creative ways to get young people into the property market.
Many of those lucky enough to be first-time buyers attribute this to the helping hand of a sizeable deposit from parents, in-laws or grandparents.
There is no doubt that buying a property is the single biggest financial decision one will ever make. Some may argue that marriage is bigger… but that’s a whole different set of dynamics for another article!
So where does this leave us? Is buying a house really that important given the state of the world, and everything Covid-19 has taught us around remote working? Should we be challenging the conventional wisdom of a bricks and mortar investment? Is there something to be said for being mobile and not tied to a specific property in a specific location? Is it not a risky strategy having all your eggs in one basket?
There is no straightforward answer to these complex questions, and we all have our own unique situations, ideals and priorities. But let’s stop for a second and understand some of the arguments for and against.
To Buy
‘Why on earth would you spend your whole life paying off someone else’s bond when you could be paying off an asset in your own name?” The idea is that one day your home will be paid for and, given you always need a place to live, you may as well spend the housing budget on buying instead of renting.
When buying a property, you can apply for a bond and borrow money from a bank. You are then able to leverage yourself to buy something you would not normally be able to afford using the bank’s money. Buying a property using a bond makes you save because, for as long as you have a bond around your neck, you are a forced saver. That bond has to be paid monthly or ultimately the bank takes back your property. When the bond is settled at the end of the term (or even earlier if you are a good saver), you may have a very valuable asset. Traditionally an investment in bricks and mortar is seen as a solid tangible asset that, over time, gives a healthy real return.
Seems like a no-brainer?
Not to Buy
There are two sides to this coin. You may have heard people say, “Paying rent is like pouring money down the drain.” This is a slight oversimplification that doesn’t take numerous factors into account. For some, not committing to buying a home may well be the very best financial decision they ever make.
Let us look at the reasons why buying could potentially be a bad idea. It may be difficult to imagine but consider a scenario where the economy takes a turn for the worse. Property prices drop, interest rates increase, and on top of that you are made redundant. It is a pretty bleak picture, but not a completely unlikely scenario. Your ability to service your bond is compromised. After exhausting your options you now become a forced seller, in a market where there are many sellers and not many buyers. You are forced to sell the property for less than you bought it for. This is financially devastating!
Buying a property is a big decision and a big commitment. You are, to a large extent, giving up your ability to be mobile. With transaction costs, conveyancing, bond and other legal fees all being paid upfront, you need to be committed for at least ten years. Buying and selling property is an expensive (and long term) exercise.
For many, that first property is the single biggest asset you own. You are fully invested in a single asset class with no diversification whatsoever. You are committing a large portion of your future savings and wealth to one country, one city, one suburb, one street.
You are also now beholden to the reserve bank interest rate changes and its effect on your budget.
A hike in interest rates means a knock-on to your monthly cash flow, so go into the purchase with a bit of a buffer to cater for rising interest rates.
Often overlooked are the ongoing monthly costs of owning a property, like rates bills, building maintenance and insurance costs.
The Best Decision?
There isn’t one. Like any good financial planner will tell you, it depends on your own unique situation, personal choices and some important prevailing economic variables.
In many cities around the world, it may well be cheaper to rent than to buy, whilst in others the opposite is true. This is why it is worth spending some time doing some research into the market conditions of the area you want to live in. Do your homework on the state of the market (supply and demand), and the location and rules around ownership.
When deciding to purchase, it’s also worth considering how committed you are to living in one spot for a specific period of time, without wanting to move. Generally, anything shorter than ten years makes the purchase unviable, and you can’t expect a return, given the upfront costs associated with buying property.
Renting can be very enticing, allowing one to be completely flexible and mobile. In this changing world of remote working, renting has become are far more favourable option for many.
Everyone will have their own unique set of circumstances but, should you go the rental route, it is worth noting that you should not ‘blow the budget’ on the rent each month. Rather consider something affordable that allows you to set aside a bit of money every month for an inflation-beating investment. Buying a property causes you to be a forced saver, but if you rent you need to force yourself to save!
Something to consider when deciding to rent is depending on the lease the landlord can give a few months notice and you have to move somewhere else. This can be a real pain.