Remember the days of stretching to buy as much house as you could possibly afford? Once upon a time, it made sense, given that you’d be sitting an a rapidly appreciating asset. But now that real estate appreciation is looking like a thing of the bubbly past, it may be time to shift focus to the advantages of buying less house than you can afford.
That’s exactly what Money magazine did in its April, 2012 issue, under the article, “Buy Less House Than You Can Afford.” (Note: The online version is much shorter than the print one.) Money compared the long-term financial implications of two different home purchase possibilities:
- a 2,000 square-foot house, with a purchase price of $239,000, and
- a 3,000 square-foot house, with a purchase prices of $389,000.
They assumed a 20% down payment, a 30-year fixed-rate loan at 4% interest, and other costs, such as insurance, taxes, maintenance, increasing at 3% per year.
Meanwhile, they calculated how much you would earn if you took the money saved on the sale and upkeep of the house and invested it at 6% per year. (That rate of return may be a little optimistic, but hey, we’re talking about a 30-year window.)
The drum roll please: By buying the smaller house, Money found that you would, after 30 years, have socked away an extra $1,016,800. Of course, that assumes that you actually save the money. Spending it bit by bit will destroy the advantages of earning interest or dividends, not to mention ofcompounding those earnings.