- Reader Case: Future Empty Nesters - September 25, 2023
- Full Circle - September 11, 2023
- Yield To Maturity Might Be Indicating a Bottom in the Bond Market - August 21, 2023
By now, we’ve done over a dozen Reader Cases on this weird little blog of ours, and contrary to popular belief, we don’t do them to make ourselves look smart (that’s just a happy side benefit). We do them to demonstrate how to do a proper financial analysis of a person’s situation. The REAL hope is that by doing them over and over again for different people’s situation, our intrepid readers (you) will learn how to do it themselves and apply it to their own lives. When it comes time to make a major financial decision, we want you to be able to MATH SHIT UP and use MATH to figure out the best thing to do, rather than just rely on your idiot mother-in-law’s yelling that “Rent is throwing money away!” and “Housing always goes UP!” over Thanksgiving dinner. So I thought I’d clear things up about something that continuously causes confusion when we do these financial analyses, and it’s something that lots of other financial blogs do as well. It’s a little something called Opportunity Cost.
Here’s how it usually goes. Someone makes a point about something stupid about, say, buying a house. To justify the money saved from not renting, they’ll tack on the Opportunity Cost of not having to pay rent in their favour. But then someone else will jump in and say “Yeah, but you’re not taking into account the Opportunity Cost of not investing your down payment!” And then someone ELSE will jump in and say “But what about having to drive from the suburbs? What about that Opportunity Cost?” And then “But what about the Opportunity Cost of sending his kids to private school?” Then everyone gets confused and nobody knows what’s going on anymore.
Here’s Investopedia’s definition.
Opportunity cost refers to a benefit that a person could have received, but gave up, to take another course of action. Stated differently, an opportunity cost represents an alternative given up when a decision is made.
Gee, thanks guys. That certainly clears things up.
For the record, I HATE Opportunity Cost. Not because it unfairly helps or penalizes one side or another, but because it universally just gets everyone confused to all Hell. Here’s why.
Know Your Scenarios
In any financial analysis, you’re trying to answer a question in the form of “Should I do something or not do something?” Common forms of this questions are:
- Should I buy this house or keep renting?
- Should I pay off my student loan or invest?
- Should I buy my wife the new purse she wants or just kill her and get a new wife?
That last one we forwarded to the FBI, but you get the picture. Each analysis is trying to answer the questions “should I do A, or should I do B?” We call these Scenario A and Scenario B, and mathing the shit up allows us to figure out what the reader should do by calculating how much money the reader has in each scenario and then just picking the higher one.
Two-Scenario Analysis
There are actually 2 ways of doing an analysis like this: A 2-scenario analysis and a 1-scenario analysis. I’ll explain the style the 2-scenario analysis first, since it’s the style we prefer and use in our case studies.
A Two-Scenario Analysis is simply running the numbers for both scenarios and then comparing them at the end. It’s more work since you have to do twice the math, but in the end it produces numbers that everyone can typically understand. Even if they disagree, they can at least understand where the numbers came from.
Let me give you an made up example to illustrate. Say we want to help a reader decide whether they want to buy a house. They’re currently renting for $1000, and they want to plunk down $500k to buy a house. Is the reader financially ahead if they buy the house?
So we do a financial projection of Scenario A: They stay put and keep renting, investing the money at a conservative ROI of 6%. Each year their investment compounds at this rate, and overall their portfolio goes up. For simplicity and the sake of example, we will assume that they save no additional money every year. It’s just the $500k portfolio and that’s it.
At this point, I’ll usually make a table and show what this does to their portfolio over a number of years. In this case, I’ll run it for 10 years and show this chart.
| Year | Balance | Savings | ROI | Total |
|---|---|---|---|---|
| 0 | $500,000.00 | $0.00 | $30,000.00 | $530,000.00 |
| 1 | $530,000.00 | $0.00 | $31,800.00 | $561,800.00 |
| 2 | $561,800.00 | $0.00 | $33,708.00 | $595,508.00 |
| 3 | $595,508.00 | $0.00 | $35,730.48 | $631,238.48 |
| 4 | $631,238.48 | $0.00 | $37,874.31 | $669,112.79 |
| 5 | $669,112.79 | $0.00 | $40,146.77 | $709,259.56 |
| 6 | $709,259.56 | $0.00 | $42,555.57 | $751,815.13 |
| 7 | $751,815.13 | $0.00 | $45,108.91 | $796,924.04 |
| 8 | $796,924.04 | $0.00 | $47,815.44 | $844,739.48 |
| 9 | $844,739.48 | $0.00 | $50,684.37 | $895,423.85 |
So, at the end of 10 years, this reader will have close to $900k in their portfolio even if they add nothing else to it.
Now let’s do Scenario B. The reader buys the house, causing their portfolio to go t0 $0. BUT they DO save rent, so they can start rebuilding their portfolio from scratch at a rate of $1000 x 12 = $12k a year. The portfolio will compound at the same rate of 6%, so we’ll project the reader’s portfolio over the same 10 year period and get this chart.
| Year | Balance | Savings | ROI | Total |
|---|---|---|---|---|
| 0 | $0.00 | $12,000.00 | $0.00 | $12,000.00 |
| 1 | $12,000.00 | $12,000.00 | $720.00 | $24,720.00 |
| 2 | $24,720.00 | $12,000.00 | $1,483.20 | $38,203.20 |
| 3 | $38,203.20 | $12,000.00 | $2,292.19 | $52,495.39 |
| 4 | $52,495.39 | $12,000.00 | $3,149.72 | $67,645.12 |
| 5 | $67,645.12 | $12,000.00 | $4,058.71 | $83,703.82 |
| 6 | $83,703.82 | $12,000.00 | $5,022.23 | $100,726.05 |
| 7 | $100,726.05 | $12,000.00 | $6,043.56 | $118,769.61 |
| 8 | $118,769.61 | $12,000.00 | $7,126.18 | $137,895.79 |
| 9 | $137,895.79 | $12,000.00 | $8,273.75 | $158,169.54 |
At the end of 10 years, our reader in Scenario B will have a house, but his retirement portfolio will only be $158k instead of $900k. So based on this analysis we would conclude that you can buy the house if you want, but you ain’t retiring anytime soon if you do. And then everyone fights in the comments, and that’s we call a Friday here at Millennial Revolution.
One-Scenario Analysis
You may have noticed that Opportunity Cost never actually came up in the example above. That’s because Opportunity Costs don’t apply in a 2-scenario analysis. You just crunch the numbers in both scenarios, project it out, and then calculate the end scenario. Badda-bing-badda-boom.
Opportunity Costs only show up in a 1-scenario analysis, meaning the person running the analysis is only doing the math for one scenario, and then using Opportunity Costs to account for the differences between both scenarios.
Confused yet? It gets worse.
In the above example, a typical 1-scenario analysis would assume the reader’s going to buy the house, and then start adding Opportunity Costs like so.
House Purchase Price: $500k
Rent Saved: $1000 per month
Opportunity Cost: $500k x 6% = $30k
OK right away it’s already confusing. We have a one-time cost of $500k, a monthly savings from NOT renting, and an additional annual cost of NOT investing. Already I hate this analysis.
So in order to do something similar to what we did before, we have to normalize both opportunity costs/savings so they’re both annual, and then calculate a total opportunity cost, like so:
Total Opportunity Cost = $1000 x 12 – $30000 = -$18000.
Which tells us…something. What the Hell does that number represent?
Well, here’s the thing: It TECHNICALLY represents the DIFFERENCE between performing Scenario B vs Scenario A. In other words, this $18k is the amount the reader is falling behind each month if they buy the house vs rent.
But even THAT’S not that clear, because if an Opportunity Cost is the cost of NOT doing something, then what about all the other things I’m NOT doing? And then this is typically where what I like to call the “Opportunity Cost Pile-On” happens, typified by commenters going “But you didn’t consider THIS Opportunity Cost and THAT Opportunity Cost!” And then everyone gets confused.
Because Opportunity Cost is already kind of detached from reality (It’s the cost of NOT doing something), it’s actually not that obvious what Opportunity Costs are valid and which aren’t in a 1-scenario analysis. This problem never comes up in a 2-scenario analysis because it only models things that the reader is actually doing, not stuff they MIGHT do, but AREN’T.
A typical example of this that always devolves into a commenter-fight is the statement “But you’re not taking into account the opportunity cost of renting an equivalent house!” And right away a mistake has been made because it assumes it’s possible for the reader to rent the exact same house they were attempting to buy. Not only is this usually not possible, but the reader was never even considering this in the first place. Their choice was to buy a house or stay where they are, not buy a house or rent the exact same house. But it’s not obvious that this is incorrect, is it? Because why am I allowed to penalize the reader for something they’re NOT doing (i.e. invest), but YOU aren’t allowed to penalize the reader for something they’re ALSO NOT doing (i.e. rent the same house).
In a 2-scenario analysis, this problem never comes up, because the answer to “But what if he rents the same house?” is answered simply by “Well, he’s clearly NOT renting that house.”
And That’s Why I Hate Opportunity Cost
Opportunity Cost sucks, not because it biases towards one direction or another, but because it confuses the Hell out of everyone. If it shows up in any financial analysis, it means a 1-scenario analysis is being done, which is inherently confusing. And at the end, it produces a weird franken-number which has no direction connection to reality.
That’s why we don’t use Opportunity Cost on this blog, and neither should you if you ever math shit up in your own personal finances. Stick to a 2-scenario analysis, run the math in each scenario, and in the end pick whatever number that’s higher.
It’ll never lead you wrong.
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Oh man, “Opportunity Cost Pile-On” is the story of my life. Every $100 I spend I can’t help but think “but this could be paying me five bucks a year for the rest of my life!” I even have a spreadsheet that factors in opportunity cost on the purchase price of various cars. Please send help.
These are two completely different analyses, one is analyzing annual cash flows and the other is analyzing ending portfolio value. You can’t really compare the two methods as they provide different outcomes.
Am I the only one that thinks the one scenario analysis above was much simpler and much clearer too? All you need to do is take $500,000, multiply by 6% and divide by 12. If it’s bigger than $1,000 the portfolio is better (it is, it’s $2,500). The difference is thus $1,500 per month, or $18,000 per year.
The two scenario analysis ended up with a portfolio of $900,000 in scenario A and $160,000 in scenario B. That doesn’t tell you anything as you’ve no idea what the house is worth and since MR always assume the house is still only worth $500,000 it will obviously lose (this is the #1 issue most readers have with two scenario analyses performed here).
As a CPA, opportunity cost is always considered in every investment decision, in fact it is one of the most important aspects of making a financial decision (and one that too many people ignore) so I don’t really agree that you should just ignore it because it’s confusing for some people.
Another important cost in a financial decision is the term “relevant cost”. For example, the cost of sending your kids to private school is a totally irrelevant cost in buying or renting, but the cost of now having to drive to work instead of walk is a relevant cost that should be considered in the decision. If you remove all irrelevant costs and only consider relevant costs, you aren’t normally left with many opportunity costs that need to be factored in.
But the House is money that’s tied up, with no bearing on your actual retirement…which is the focus of this blog…
It’s not tied up, you can sell your house whenever you want it’s just a bit harder and more expensive than selling a portfolio.
Many, many people either downsize or move to a cheaper town/city in retirement (or both) and thus sell their big expensive house, realizing all the gains it has made in the 10+ years they’ve owned it.
Do you think if someone is in retirement with a $1 million house and no cash they will stay in the house and live in poverty? No, they will sell the house, move to a smaller place and use the leftover cash to live on. I don’t recommend this one asset strategy but it’s a valid retirement plan that the majority of people undertake. This is why house prices, long-term, will always appreciate (unless population starts to decline) as housing is something people always want to own.
I understand that. I guess it really depends though on what amount you make on it. We’ve seen huge gains in the last 5 years on real estate in Vancouver and Toronto, but to expect that type of return is unrealistic. So if investing gives you approx. 6% what is the generally agreed upon percentage you can expect from real estate? In that case, doing the 2 scenario comparison option still seems superior to an opportunity cost analysis.
Figuring actual price appreciation will depend on the specific market, but overall US trends are about 0.5% per year over the last 36 years (1980-2016). Note that this is in real terms.
http://www.economist.com/blogs/graphicdetail/2016/08/daily-chart-20
For short periods of time, assuming low or no appreciation on a house is a controversial assumption, but not necessarily a wrong one.
Both are fine analyses and both take into account opportunity cost, the two scenario analysis just does it less explicitly. It removes the $500,000 opening balance and instead adds a $1,000 monthly cash flow. The opportunity cost here is no longer having the $500,000 opening balance.
Both analyses make major assumptions as well, this is where peoples opinions differ. Many people assume the house will increase in value, MR do not. The 6% return is an assumption too. Any changes in these affects the outcome drastically. It would be worthwhile to perform sensitivity analyses in both situations, for example what would happen if returns dropped to 3%, or if the house increased in value by 8% per year average. This provides a good range of potential outcomes depending on the assumptions made. I think the assumption of no house price increase is outrageous and totally skews the outcome, hence I don’t really agree with many analyses
There is never a definite answer, but you can get a good estimate.
Thanks for the explanation:)
I’m still struggling with the concept of how saving 1000 a month in rent really comes into play. For example, I’ve had the argument that people who keep a minimum balance in their bank account are technically gaining thier fees and are therefore making a higher percentage then plunking that money into an investment, or a high interest savings account. If the alternative is to not have any bank fees at all, isn’t that argument a wash?
If putting 500000 into a house can give you similar gains with similar risks as investing, that makes sense, but to say that you are “saving” 1000 a month doesn’t seem like a realistic assessment. With that house comes the mortgage and the interest owing on that, upkeep costs which are a big fat question mark…and if it’s a new property, how about land taxes, or condo fees etc.?
Maybe both methods are too simplified to give a realistic assessment.
In regards to the bank fees it’s somewhat simple. Say you need to maintain a balance of $3,000 otherwise you have fees of $25 a month, you can again use either of the analyses above.
A two way analysis determines the total cost after X years and a one way analysis determines which option is better in terms of cash flow per month. For example, assuming a 6% ROI, under a two way analysis:
– Not maintaining a $3,000 balance will cost you $25 a month in fees. After 10 years at 6% ROI that’s a cost of $4,117.
– Maintaining a $3,000 balance prevents you from investing the money in year 0 and thus the opportunity cost is lost interest. The interest this would make in 10 years at 6% is $2,458 (ending balance $5,458).
Therefore, the cost of maintaining the balance is $2,458 compared to the cost of $4,117 for not maintaining the balance. In this situation, it’s better to maintain the balance.
A one way analysis would simply take the $3,000, multiply by 6% and divide by 12 to give you a monthly cost of not investing the money. This gives you an opportunity cost of $15 per month by maintaining the $3,000 balance, as opposed to $25 per month of not maintaining it. Again, maintaining the balance is better.
As I said in my OP, the analyses are simply different as one looks at ending balance (cost) and the other looks at cash flows. The result will always be the same if the assumptions in both comparisons are the same.
And yes, saying you are saving $1,000 a month in rent is too simple if you only compare the mortgage, there are many factors to consider and the calculations can get very complex if you want to go in depth. There are many online calculators for this if you really want detailed analysis though.
“But you’re not taking into account the opportunity cost of renting an equivalent house!” doesn’t mean renting the exact same house, it means if the person is considering buying a 3 bedroom house but are currently renting a 1 bedroom apartment and you do the math on the price of the 1 bedroom apartment compared to buying a 3 bedroom house instead of factoring in the amount it would cost to rent a 3 bedroom house in the same area.
With that being said this would only be an issue if the person mentions they plan on renting something else and then provide an estimate on the rent costs, if the person is asking “should I stay whee I am and rent or should I buy a house?” then it doesn’t matter what it costs to rent an equivalent house in the area because it isn’t a factor the person writing in is considering anyway.
For the purposes of this blog I understand the importance of keeping it simple and just doing the calculations and not factoring in every little thing but if you are the person making the decision to go with A or B then all factors should be considered including things like convenience and quality of life and not just money. I don’t regret buying my townhouse even if it cost more because the convenience and quality of life was much better.
“You may have noticed that Opportunity Cost never actually came up in the example above”
Just so you know the two way analysis does include the opportunity cost by removing the $500,000 from the starting portfolio balance if the house is purchased. This is exactly what the opportunity cost is as you will now not be earning the 6% ROI on that $500,000 as you invested it in the house.
This is why assuming 0% ROI on the house skews your calculations so drastically, you take one portfolio of $500,000 and assume a 6% return, and move it to a $500,000 house and assume a 0% return. The opportunity cost in this comparison would be enormous.
I think this all boils down to people confusing the definition of a phrase. You calculate opportunity cost every time you do a 2 scenario analysis. Scenario A is $100k, Scenario B is $50k. You say A is better. If the reader / case study chooses to do B anyway for whatever reason, the opportunity cost is $50k.
As for the example you gave above, you really just need to look at overall costs of each living situation. Rent vs. property taxes. Portfolio growth vs. House value growth. Hold all other expenditures steady that make sense. Net worth at the end of 10 years wins.
This assumes that the case study sticks with the winner. If they choose the “loser” the opportunity cost is, again, just the difference between the two. Very simple.
This only gets confusing if people throw in random crap that can’t be “mathed up”. Or better yet, when non-math items supersede the math items. Lower net worth, but you get to walk to work. Opportunity cost is just a trade off. Math or not.
I agree with Vancouver Brit’s comments. Opportunity costs and financial forecasting are pretty straight-forward concepts. The difficult part is obtaining and accounting for all relevant variables.
MR doesn’t attribute anything to house appreciation. In my market there has been a 60 year history of 7% inflation adjusted appreciation for housing. Most markets in desirable areas are 3-7% long term. If you live in a relatively undesirable area house prices will be cheaper and appreciation rates may be lower. It, like the costs of home ownership, still needs to be taken into account for accurate forecasting.
If you ignore other relevant variables, like calculating ROI pre-tax instead of post-tax, this will also skew your results in an undesirable way. I think the key to a good case study is the follow up on all relevant facts and expenses and have a good understanding of taxation and other factors that will affect the net.
Would they live in a one bedroom still if they rent and have two kids? If not, get them to give you their estimate for rent and use that. If yes, use their current rent. The individuals writing in should be asked for more information and then people would not point out what has been missed or assumed.
I also agree there are lots of online calculators that are helpful for these scenarios.
We don’t model house appreciation because we’re trying to calculate time to retirement, i.e. investible net worth. The value of your house can’t be used to help you retire, unless the market behaves and you time your sell just right. Over the hundreds of people who’ve emailed us, I believe exactly one person managed to do this (sell their Vancouver house at the top of the market and retire), and even they admitted it was blind dumb luck.
People emailing you, a blog based on calling home owners crazy, are not a representative sample. More than 50% of Canadians plan to use home equity in retirement. Lots of Vancouverites have done this by selling and moving to Victoria or the Okanagan. Many stories online about Torontonians doing this as well. You will find a big expat community in Mexico who have done the same. And many older folks downsize to condos from houses and invest the difference. We are early retired and own a triplex. The rents cover our cost of living. And there are Helocss if you want to invest your equity. Math is math and home appreciation is a valid variable with a long term measurable track record – just like stocks.
Yes, real-estate investing is a valid way to get cashflow, BUT putting everything into 1 house and relying on that for retirement is not. Saying your house is going to appreciate 7% because houses in the area have done so and then relying on that for retirement is like saying the index has gone up 7-12% historically, putting all your retirement funds in 1 stock in the index and saying “yup, my retirement plan is sound”.
There is a big range between 0 and 7%. 7% is the long-term average inflation-adjusted return over 60 years in my market. TO might be different.
Applying 0% to home appreciation is ludicrous when at no time long-term has the housing market in Canada not appreciated and inflation is a real thing. It is the same as saying the stock market will appreciate 0%. The future is unknown, but the past is the best indicator of future performance.
If you don’t believe the future will return this amount over the long term pick a more conservative estimate – even set it at inflation – but zero is just not reasonable.
In addition, home appreciation on a primary residence is tax exempt and you use leverage. Neither factor goes into your analysis because you don’t even keep up with inflation.
Also a house is just not like a single stock as it has utility outside of its investment value. It takes the place of a rented shelter and it can be rented out for income. There will always be a market value for housing/land and it will likely appreciate in desirable areas over time. To disbelieve this concept while choosing believing that the market will rise over time is irrational given that you are relying on historical returns for one while ignoring them for the other.
Again, appreciation is useless unless you sell it. And not everyone wants to rent out their house and be a landlord. A house is to live in, not to flip and make a quick buck like the speculators have been doing in Toronto and Vancouver. Anyone who doesn’t understand diversification and liquidity, and think that buying a single house to rely on in retirement doesn’t understand how investing works. That’s not investing, that’s gambling.
“Also a house is just not like a single stock as it has utility outside of its investment value. It takes the place of a rented shelter and it can be rented out for income”
It also costs you a butt load of money to own and is very difficult to sell when the market tanks (liquidity and diversification are key when it comes to surviving retirement). All it takes is 1 bad tenant to destroy everything. if you want to gamble your retirement on that, go right ahead. I’ll pass.
Appreciation is not trapped capital. There are helocs and reverse mortgages. I’m not stating you need to become a Landlord, I’m saying assigning 0% to appreciation is illogical and skewing your results away from reality.
You know HELOCs are debt, right?
Low cost debt that I actually do recommend any homeowner to have in case of emergencies, but still debt. To conflate what should be emergency access to debt with cash and/or investment capital doesn’t sound like very sound financial advice to me.
As for whether to even factor in the appreciation of a home into these calculations, I think you’re both right. It depends, though, on what you’re trying to calculate. Net worth or cash flow. Ending portfolio balance or years to retirement.
Sincerely,
ARB–Angry Retail Banker
“It depends, though, on what you’re trying to calculate. Net worth or cash flow. Ending portfolio balance or years to retirement.”
You said it perfectly, ARB!
You know that many people use HELOCs to invest and write off the interest through the Smith Maneuver right? A HELOC used to invest is different in that it should create more equity than the amount borrowed. Enough to help with ER.
“…right away a mistake has been made because it assumes it’s possible for the reader to rent the exact same house they were attempting to buy. Not only is this usually not possible…”
You obviously haven’t seen the cookie cutter condos in most of the high-rises being built here in Vancouver at the moment 😉
Also if you want to make things even more confusing you should really be taking the time value of money into account too!
I understand why for the blog you’d want to stick to just two scenarios, though once somebody understands the principles there’s no reason they can’t try three or more scenarios for their own situation to get information about each one. It’s not like Excel charges by the column.
True, you can do that on your own. My own scenario analyses can get pretty crazy, but as a result nobody can understand them but me.
I share the sentiments of Vancouver brit and indigo. Accounting for all variables is where it gets confusing. It’s fun to attempt to math that shit up though. I touched on opportunity costs briefly in one of my posts.
http://www.realsimplefi.com/home-investment-lifestyle-choice/
Here is the rest of the ivestopedia definition
“This cost is, therefore, most relevant for two mutually exclusive events. In investing, it is the difference in return between a chosen investment and one that is necessarily passed up.”
Nice summary of opportunity cost Wanderer. Rather than criticize like other commenters, I’m just going to say “good job taking on a tricky subject!”
The heart of the matter is really about making good capital allocation decisions — you’re absolutely right on that front!
Sometimes those decisions will be entirely obvious, calculating NPV down to the penny isn’t necessary.
Other times it won’t be so clear. There’s often too many assumptions (aka guesses) involved to do a proper “mathy” evaluation.
Great to see snowflake homeowners triggered by mathematical proof that renting beats owning in virtually every scenario, never mind in the horrendous gasbag of a housing bubble we’re in right now.
Keep doing your great work, Wanderer. Believe me, you’ve got lots of supporters in your crusade for FIRE. Keep taking on the skeptics and deniers as you do. It’s important to challenge the housing cult in Canada.
Here are my problems with the people criticizing this post, and it’s going to echo my comments from another thread (I think the La La Land Read Case?).
Everybody’s missing the point.
People are trying to play around with the numbers to show FIRECracker and Wanderer that, hey, actually owning a home and doing this instead of that will end you with a higher portfolio balance or a higher net worth at the end of this many years.
Perhaps that’s true. Perhaps you are correct.
No one cares.
No one cares because your end goal is different from what they are trying to advocate. Again, just as I said in another comment, let’s just assume for one moment that owning your primary residence will net you a higher net worth than renting and putting that money into an investment portfolio. Let’s just assume.
That’s nice, but no one here cares. Or, more accurately, most of the readers/defenders of this blog (as well as its authors) have different end goals than you do. They would rather forsake a house and invest for passive income in order to break free from their jobs earlier in life. I share this goal.
And our end goals aren’t “right” while the other people’s are “wrong”. It’s just that the issue here has less to do with opportunity costs and more to do with different goals. Let’s just stick with our earlier assumption on stock market returns vs housing market returns for one moment, along with another assumption that your only two options are to rent and invest or put everything into your primary residence and nothing else. You can run the numbers all you want showing that the latter option will earn me a higher portfolio balance and net worth when I’m 65, but I’m going to choose the former if it means early retirement. I have a different end goal (early retirement rather than wealth accumulation) and will take what I believe are the best means to achieve that goal.
So often, I see people on here trying to criticize and counter this blog (which is fine. Every blog should have dissenting points of view at some point since we should always be looking at things from different angles) with arguments about the value of tax write offs for your home and how well the housing market is going to appreciate and all that stuff. All valid points, absolutely. And all completely missing the main point entirely. Missing the point to the level where we now have to file a missing person’s report for that point. And that point is to spend, earn, save, and invest in a way that pushes you to an end goal of retiring early via passive income, not towards an end goal of simply having the most wealth. If you’re trying to convince us that we will get a bigger tax refund each year if we own, you’re missing the point by trying to eclipse a major benefit of passive income investing with a minor benefit of homeownership.
Of course, I’m as anti-rent as I am anti-traditional homeownership, so I don’t think that own vs rent is the be-all-end-all of the debate. It’s like anime fans arguing about subs vs dubs and Japanese vs English as if they are the same argument when it’s NOT the case. You can be just as beholden to your landlord as your employer, and you can retire early while owning a home. Frankly, I think that the myriad of other options in between the polar “rent forever or own a single house” choice are way better than the two presented. I frankly think that, generally speaking, those are the two worst possible options to go for.
Everybody goes for them, of course, which is why everybody is shackled to their jobs until 65.
All that fuzzy talk about us just having different end goals aside, some of the critics on here have been giving a few “soundbites” that I would consider questionable. Defending using your primary residence as your whole retirement strategy? Saying that money invested in a primary residence isn’t “tied up”? Using a Home Equity Line Of Credit to invest in the market? I……I need to lie down.
As for the opportunity cost, again I think Wanderer hits the nail on the head. Opportunity cost is a great tool when used properly. Jason Feiber of Mr. Free At 33 (and of former Dividend Mantra fame) did a series of articles recently on how he cut spending on things like eating out and buying cars. But he didn’t just say how much money he saved on taking the bus vs driving a car. He took the amount of money that people spending on buying, servicing, or fixing a car and then ran the numbers to see what that same money would have made someone in the market, thus the amount of money that someone loses the opportunity to make by spending it on a car. THAT’S the proper way to do opportunity cost. On this blog, I’ve seen readers screaming back and forth about used furniture and the cost of education (for readers who say that they are single) on a “rent or buy” question because the conversation spirals so out of control into things that are impossible to predict without a crystal ball.
Kristy and Bruce, keep up the great work!
Sincerely,
ARB–Angry Retail Banker
“Missing the point to the level where we now have to file a missing person’s report for that point….”
BWAHAHAHAH! ARB, you rock!
This is great. We literally just bought the house that we’ve been renting for 10 years, so I guess we’re the unicorn there. I spent so much time on opportunity cost, doing exactly the two scenario math, and it still doesn’t feel like we covered a proper opportunity cost.
Ah well, we were so shit at investing and at spending that we still have a pile of cash to work our way into proper investments before I need to really worry how much we’ve screwed ourselves by buying this house instead of moving somewhere else (which I absolutely also looked into, along with buying other houses that actually would allow us to rent space out).
Oh well, here’s hoping it wasn’t too bad a decision in the end and the world doesn’t burn down in the next few years (or if it does, it does so in a way that our insurance kicks in)