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Thursday, September 2, 2010

The Housing Market

I was alarmed the other day when I was watching the news and it was reported that we are on the verge of a housing bubble in major cities in Canada. "Yeah right..." was my initial thought, but looking at the numbers I may have changed my mind.

The statistics that the show shared was that the average house is now valued at 4.7 to 11.3 times the annual household salary. Now quickly run the numbers to see how much house the minimum and the maximum would be for you. frugala and I make a little more than $100K per year together, so for us that would be from $470,000 to $1.1 million for a house. I am having a difficult time finding ways to have our next mortgage for $250,000 so these numbers are impossible.

Historically, the books have said that you should spend about 2.5x your annual salary on your house. What is the problem if you have a house that is worth $1.1 million and you make $100,000 per year, other than the $5251.57 monthly mortgage (that is 4% interest in my calculations over 25 years which isn't possible I think to pay on $100,000 per year). Since our interest rates are basically at 0%, any increase will cause these houses to be out of people's price range. If we change my calculation above to 3% over 35 years compounded monthly (you can tell I am getting ready to go back to school) and a $800,000 mortgage, that is still $3078.80 per month. These people will be house-poor (meaning that they live in a beautiful home but will be unable to afford anything outside of their house).

I prefer to be a little more flexible with my income. My suggestion, if you are unable to afford a standard 25 years mortgage then you can't afford the house. Another great suggestion that I read was for the six months before you decide to move, put the amount of your rent aside for savings (so essentially you are paying double for rent). If you can do this comfortably, then you can afford to buy a house.