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You can go from house poor — spending too much or at least more than you’d like on housing — to becoming house rich and you don’t necessarily need to downsize your home to extract more value from it. In our case, we upsized our home while still netting a big sum.
Covid-19 has led me to start planning more carefully for the future. Boston University, my employer, is going to survive. But the University, like all universities and colleges in the country, is in a very tough financial bind. It can’t charge full tuition, at least not for long, for education delivered remotely. Nor can it afford to forego income from student housing fees and other student services. As for now, the University plans to reopen with routine testing of students, faculty, and staff. But how many students will show up is unknown. Like other large employers, BU has already suspended employer retirement account contributions. Direct salary cuts may be next.
Having a job, any job, is a luxury these days. So I’m very lucky to face a possible salary cut, not a job termination. Yet, like everyone else, my wife and I need to adjust our financial plan in light of changes in our financial situation. As those of you who follow my columns know, I’ve developed, via my company, an economics-based personal financial planning software tool, called MaxiFi Planner. The tool doesn’t start out like other tools and ask you how much you’d like to spend in retirement. My answer to that question is $1 billion a year. Instead, it figures out what you can afford to spend on an ongoing basis without going broke.
This means that if your wages or fringe benefits are cut or your return on your assets goes down, the program can tell you in the course of a couple of seconds, taking into account changes in all federal and state taxes, how much to cut your spending and raise your saving. There aren’t two answers to this question. If your economic resources (your financial wherewithal) decline, your spending wherewithal declines — by the same amount. You may want to spend at some targeted level in retirement, but that just means you’ll need to take a bigger spending cut before retirement. That’s not what people are after. They don’t want to starve today to splurge when they are 80 or splurge today to starve when they’re 80. They want a smooth (sustainable) spending path. Economists call this consumption smoothing.
When I reran our plan in April, based on very conservative assumptions, the message was clear — spend a lot less and do so immediately! It’s no fun having your own software telling you to shape up financially. But again, I realized that reducing our spending wasn’t anything close to the economic tragedy so many people in our country are now experiencing due to what may end up being called The Greatest Depression.
Still, as week after week went by being cooped up in our very small Boston apartment, my wife and I started considering moving to a larger home. I figured we could move to the, for us, dreaded suburbs from downtown Boston and get more housing for the same money. I was wrong. Housing is extremely expensive all over the Boston metropolitan area.
So we started looking for a place further away that was still commutable to Boston and in a city. We found a small house in Providence, Rhode Island. The house had two very compelling 75s. It had 75 percent more space and its cost was 75 percent lower per square foot. It also had a yard and would free us from dealing with a condo association, which is never fun. That describes the upside. There were downsides, including higher state income taxes, commuting costs, and putting on a new roof.
To see if moving made sense, I set up an alternative profile in MaxiFi, entered a change in home, incorporated the cost of a new roof and the commuting costs as special expenses, and ran a comparison report. The program came back with a $219,600 increase in lifetime spending! This reflects earning a high, safe return by paying off our mortgage as well as facing lower annual property and maintenance costs. Still, it wasn’t an easy decision. But we pulled the trigger and are moving in a month.
I’ve written about this decision to make clear that you can go from house poor — spending too much or at least more than you’d like on housing — to becoming house rich. In our case, we raised our lifetime spending capacity by a large amount and are ending up with far more living space in the bargain. The moral of this story, then, is that you don’t necessarily need to downsize your home to extract more value from it. In our case, we upsized our home while still netting a big sum. There are other ways to get house rich. I’ve written a series of columns, posted at kotlikoff.net, that show the advantage of paying off your mortgage even if it means cashing out your 401(k) to do so. This article, for example, shows how a hypothetical middle class couple can net almost $100,000 by using their 401(k) to pay off their mortgage.
In the current economic situation, with crazy low interest rates and a crazy high stock market, paying off debt, be it a mortgage, a car loan, a student loan, or a credit card balance, is the best investment around. But moving may also be worthwhile — more worthwhile than you think. Before we started investigating, I had no idea that the price of one of the most important things we buy — shelter — could be 75 percent cheaper a mere hour away.