The government has artificially lowered interest rates, and because of this, they have created an illusion that people are wealthier as their homes go up in value. Excessively low-interest rates have caused home prices to skyrocket to the point where affordability is questionable for most taxpayers. The same applies to income-producing properties, where low-interest rates have bid up prices and rents.
Some homeowners may get into a financial squeeze of affordability in their older years. After the kids are gone, even the hangers-on are eventually forced to leave the comfort of the parents’ home. A former family of five is now two adults and they may find themselves overwhelmed by all the unused space of their 3,000 to 5,000 square foot “McMansions”. Heating, air conditioning, electricity, lawn maintenance, tree maintenance, home maintenance, and general upkeep become a major burden both financially and physically.
The days of bigger, better, faster, and more expensive become a burden; the desire for simplicity and frugalness surfaces as important. Who needs the pool that no one uses, the yard that takes a team of gardeners to maintain, and all those empty unused rooms that need to be cleaned? The only rooms that get any use now are the kitchen, bedroom, family room, laundry room and, of course, the bar.
Assume that a couple purchased a home about 40 years ago, a four-bedroom, three baths, with a large family room, den, and a three-car garage on a ½ acre land parcel. They planned on having two to three children and needed adequate room to add a pool, & jacuzzi. The purchase price for the home was $200,000. They financed 80% and took out an equity line of credit for $100,000 to pay for all the upgrades.
Over the next 20 years, they improved and remodeled the home as needed. The kids grew up spoiled and after attending fancy private grade schools, demanded to go USC rather than attend a state university. Eventually, their children graduated from college. Two of their children got married and pressured the parents for handouts to pay for their own growing families. Their oldest daughter who went through a nasty divorce moved back in for a while with her own children causing an even bigger burden on her parents. Soon the parents were forced to refinance their home to $400,000 to pay for all the joys of their ever-growing extended family. Forty years flew by in a blink.
The discussion about downsizing to a more comfortable home that results in a smaller financial monthly burden sounded like a very intelligent idea.
Discussion about the following issues were the main concerns:
- Age limitations about being able to climb the stairs to get to the bedrooms.
- Maintaining the home and exterior yards costs about $2,000 per month.
- Creeping property taxes.
- Not using all the excess space and keeping up maintenance on the pool.
- Being able to sustain the house payments.
The home was worth about $1,700,000 and the monthly costs to maintain were:
- The house payment $3,000.
- Property taxes $500.
- Utilities $400.
- The up-keep of the exteriors came in at about $2000, for a total monthly obligation of $5,900.
They discussed their options for moving:
- Sell and downsize to another home.
- Sell their home and rent another.
- Rent out their home and they could rent a much smaller place.
With the first option, they would sell their home for $1,700,000 less closing costs of 6% net, $1600,000 less outstanding balance on the home loan of $350,000 would give them $1,250,000. With the $500,000 exemption for two-party families, capital gains would be calculated on $750,000 at 20%=$150,000 payable to the government, which leaves a net on the sale of $1,100,000. If the couple purchased an $800,000 replacement house and paid cash, they would still have $300,000. Because of propositions 60 and 90 in California, the couple could transfer their old property taxes to the new home, so their monthly outflow would be as follows.
- No house payments.
- Property taxes $500.
- Association dues $700.
- Utilities and home upkeep $1,000 totaling $2,200 or about 40% of their prior monthly expenses. Smaller home, cash in the bank, and less than ½ of the monthly expenses.
The second option would be that they could sell their home and rent another. The couple discovered that they would have to pay around $4,500 a month for a nice condo, in a safe area, and they knew that if they wanted one with all the amenities, they would pay a high association fee. The savings here was little compared to keeping their existing home. They could invest their $1,100,000 at 5% per annum which would cause a monthly income of $4,583,33. Their out-of-pocket monthly expense for housing would be zero. But rents could rise, neighbors could be pesky, the homeowner’s committee may bother them, or the owner of the property could sell the condo.
With option three they could rent their large house out for $7,000 to $10,000 per month to strangers and then rent a much smaller home for $4,000. This option would involve the responsibility of being a landlord and possibly getting flaky tenants who might damage the property forcing them to spend money for repairs. This is rarely a good idea unless forced to do so because of bad health or death of one of the parties.
With all the above options comes the gruesome reality of how to downsize and rid themselves of a life’s worth of stuff the couple felt were valuable collectibles, antiques, and heirlooms. They quickly discovered that style preferences had changed. The kids looked at all their stuff as old-fashioned and out of step with the times; their kids preferred the modern classic look. The collection which was so valued by the parents had no value and was looked on as a burden by the children. What was not a burden to the kids and grandkids was the cold hard cash they received from the parents on their birthday’s and on holidays.
Now, it’s time for you to go to the bar in your “McMansion” and open a bottle of fine Cabernet Sauvignon. Sit down in your traditional furniture and celebrate the decision that is the best for you. Stay put! Maybe the grandkids will want to come over for a couple of days to swim in the pool and barbecue.
Business and Private Money Finance Consultant
Cell 949 533 8315
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