“I think we are house-poor,” said Greta*, a physician client who lives with her husband, Zeke*, on Long Island. We were only part-way through developing their IFP (Initial Foundation Plan) so I didn’t yet have a grasp on whether this statement was simply a feeling or based on difficulties with their cash flow and the inability to reach goals. How much house one can afford is a common topic on the WCI forum and, even though we can find multiple rules of thumb scattered throughout, you must examine the whole situation, including individual perceptions, before drawing a conclusion.
Obviously, this was a concern, so I decided to pause and focus on the house. They had come to us only a few months ago and had bought their house in 2008. Was this a crack in their plan that deserved special attention?
Here are the factors I considered to reach my conclusion (which is below):
- They have about 39% equity in a home worth $750k, and jointly make ~$375k annually. With an annual mortgage of ~1.64 times their income, no cause for alarm yet.
- They have no student loan debt, big plus, but they have had recent problems with consumer debt, which is one reason they had reached out for financial planning. They are getting back on track, but the fear of overspending and not being able to make mortgage payments lingered.
- Greta is maxing out her solo-401k, Zeke has just changed jobs and is not yet participating in his 401k, but plans to do so. However, I notice the budget we have developed shows them breaking even with no contributions on Zeke’s part. That means we’ll need to figure out where to find the extra cash flow to contribute.
On closer inspection, I see that the budget Michelle has developed with them shows over $2k/mo in miscellaneous consumer spending. This can be allocated to retirement savings without affecting their quality of living. Also on a positive note, Greta and Zeke both max out their backdoor Roth IRAs and, according to my calculations, are overfunding the 529s for their children, age 4 and 6.
- Last item and the one that really made my mind up: Greta commented that they had spent more on a house than planned because the public schools were good and they wouldn’t have to send their children to private school. Because the average cost of private elementary school in NYC is $11,430/yr and the average cost for high school is $21,921/yr, Greta and Zeke’s decision to buy a moderately more expensive house was actually financially sound. They bought an appreciating asset in a good school district (better resale value) and easily saved $200k+ on school costs, which will continue to inflate.
In my opinion, Greta and Zeke are not house poor. Greta continues to worry about consumer spending and is also emotionally affected (as are several of our clients) about purchasing a home in 2008 at the peak of the real estate market. This causes her to focus on their largest expense: paying for and maintaining their house.
But because they are doing well with their 529 and retirement saving, are getting a free public education for their children, and have a reasonable debt to income ratio, I was able to assure them that if they stick to their budget and watch the consumer spending, being house poor should not be on their list of worries.
*These are real clients but we’d never use their real names!