Most Americans own more home than they can afford. If it isn’t more home than they can afford today, it certainly will be more than they can afford tomorrow.
The litmus test for this is single question: Will your financial assets be greater than the value of your home when you retire? For most Americans— a large majority— the answer is “no.” And that spells trouble.
This measure didn’t come from a major study. I found it in reader letters, in notes readers sent responding to my request for “small solutions” to the personal finance problems we all face.
Being careful about how much house they bought and financed was a major theme. They didn’t want to buy more house than they could afford. Nor did they want to borrow more than they could afford. They also wanted to pay off their mortgage as soon as possible. Owning their house free and clear was a major milestone for success. While most people stretch to buy more house, these readers tried to buy less house and to borrow less money.
That seems almost un-American, doesn’t it?
For middle class Americans, homeownership has been our friend. For at least half a century the best thing a working stiff (or up-and-comer) could do was to buy a house and wait for rising home values to produce a sense of giddy affluence. Own the right house in the right area and it would appreciate so much that you wouldn’t need to save for retirement at all. You could buy a house in Massachusetts, Connecticut or California. Hold it for a long time. Then, when you were ready to retire, sell the house and move to Florida or Arizona.
The strategy worked nicely from the 1950s and into the new millennium. But it hasn’t worked since then. Today, most people approaching retirement find themselves owning more house than they will be able to afford when they retire.
The metric for this is simple, but fuzzy. If you have financial assets equal to, or greater than, the value of your mortgage free house, you’ve got a shot at reasonable retirement security. You need that amount in savings and retirement accounts because your house may be an asset, but it is a consuming asset. You need money to pay for real estate taxes, insurance, utilities and repairs.
How much is that? It all depends. As a very rough measure the annual operating costs for a house run about five percent of market value. Some cost more. Some cost less. If we also assume, with equal roughness, that we can withdraw five percent from a portfolio each year that means we need investments equal to the value of our house just to keep a roof over our heads.
This, by the way, is not a conservative measure. Many advisors would suggest that we should consider taxes on investment income. They would also suggest that we should consider how low current market returns are. So this is no sure-fire formula for retirement security.
Indeed, since our metric only covers the cost of shelter, leaving food, clothing, healthcare, transportation, entertainment and all other expenses to be covered by Social Security and pension income (if any) it’s likely that this is really a bare-bones minimum requirement for retirement. Think of it as a starting goal.
Do many people reach that goal by retirement age? Sorry, no.
One recent study of household retirement assets found that only the top 20 percent of households had total financial assets greater than the equity in their homes. While the top 30 percent of married households had more financial assets than home equity, only the top 10 percent of single person households got close to (but did not meet) the required savings amount.
Since this study compared home equity with financial assets, but did not consider home mortgage costs, the figures would have to be adjusted downward due to the rising number of retiree households that are still making mortgage payments.
What should you do? It depends on your age.
If you are approaching retirement and coming up short on financial assets, owning less house is essential. Not convenient— Essential. So start figuring out how to become less “house poor.”
If you are younger, don’t get sucked into the my-house-will-make-me-rich-syndrome. Look for less house than you can afford and live comfortably within your income. With many seniors likely to be eager sellers, you may be able to buy more house than you think.