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Financial Planning: A Midyear Guide 1987 : part five: Building Wealth : Is Buying a Home Still a Good Bet?

June 21, 1987|David W. Myers | David W. Myers writes about real estate for The Times

In the late 1970s and early '80s, buying a house was a wise investment for just about everyone. Double-digit inflation rates virtually guaranteed that a home's value would rise at least 10% a year, and returns were enhanced by deductions for mortgage-interest payments and property taxes.

But today's modest inflation rate has changed all that. Nationwide price increases averaged a meager 6.4% in 1986, and the National Assn. of Realtors

predicts that they'll rise an even skimpier 3.8% this year and 3.4% in 1988. And although Congress didn't tinker with most home-related writeoffs when it passed its historic tax reform bill last year, the after-tax cost of homeownership has increased because lower individual tax rates make deductions worth less.

The changes have thrust some tough decisions on would-be home buyers, especially if they view a house more as an investment than a place to live. For some, buying a house no longer makes financial sense; those who still want to buy must scale back their expectations of appreciation and tax breaks.

If appreciation potential is an important factor in determining whether you buy or rent, your final decision may hinge on whether you think inflation will come roaring back. Real estate values usually soar when inflation heats up, in part because higher construction costs drive up prices of new homes and older houses ride the coattails. But when inflation is low--as it is today--home values don't go up much because construction costs are fairly stable.

With home prices in most parts of the country rising at a snail's pace, experts warn against getting carried away in the investment aspect of homeownership.

"You have to look at housing nowadays as a consumption item, not as an investment," said Deborah Olivier, president of the Claremont Economics Institute. "If you think its value is going to soar and you're going to retire on all the profits, you're wrong. Those days are gone."

Most economists say inflation won't reignite soon, and many believe mortgage rates will ease back down to 10% or below by the end of the year.

The modest outlook for inflation means you've got plenty of time to look for your dream house. In fact, some experts who believe interest rates will decline are advising would-be home buyers to delay their plans until later this year or early 1988.

Still, gambling that rates will move lower can be risky. "If interest rates drop 1% and home prices go up 5%, you're not going to save any money," said Joel Singer, chief economist for the California Assn. of Realtors. "The higher price is going to eat up all your savings from the lower rate."

Even if the most optimistic projections of rising home values are met, daring investors may be better off putting their money into stocks, bonds or other investment vehicles that can provide higher returns in a much shorter length of time. Even conservative investments, such as one-year Treasury bills, are currently yielding about 7%--and that's better than the appreciation potential offered by some of the best-located homes.

In the long term, home values are expected to rise at about the same pace as the overall inflation rate. Although such an increase would please most homeowners, investors seeking better returns are advised to look elsewhere.

"Everybody brags about the killing they've made by buying their home, but they overlook the fact that they could have done even better by making other types of investments," said Lawrence A. Krause, a San Francisco financial planner.

As an example, Krause said someone who bought a home for $20,000 in the 1950s would probably have a property worth about $250,000 today--a tidy twelvefold increase. But another investor could have put $20,000 in one of several mutual funds, and today the investment would be worth nearly $2 million. "The home buyer would have got some tax breaks, but who really came out ahead?" Krause said.

Residents in areas suffering from a glut of apartment buildings might be better off renting instead of buying because landlords have slashed rental rates to avoid costly vacancies. "There are landlords in Texas, Denver and most of the Southern states and Florida willing to give you six months of free rent" if you'll sign a one- or two-year lease, said Sol Shiefman, director of research for Dallas-based financial services giant Lomas & Nettleton Co. Although excess supply will gradually be eaten up because multifamily construction has plunged, residents in overbuilt areas might be wise to rent for a year or two until their local apartment market firms.

Rental bargains can even be found in Southern California, an area not known for low housing costs. Modest overbuilding and local rent control laws should keep rent hikes to a minimum, he added.

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