A Bigger House is Not Always Better

People seem to go batty over the fact that the interest on your mortgage is deductible. They also seem to do the same thing over the the capital gains deferral for your primary residence. But just because you can sell your house, take a profit, and buy a bigger house to have *more* of a tax deduction, that is not necessarily a good thing.

Let’s say you have a $200,000 house. You put 20% down, so you have a $180,000, 30-year fixed mortgage at 5% (for the purpose of round numbers). Your payment is: $966.

Suddenly, your house appreciates. You can now sell it for $250,000. Rather than taking the capital gains and paying down a mortgage on a similar house, you decide to capitalize on this, sell your home, and trade up. After closing costs and fees, you have about $60,000 to put towards your next house. So you buy another home with 20% down, the new home being worth $300,000 with a 20% downpayment = a 30-year mortgage of $240,000.

At the same interest rate, your payment is now $1,395. You have just increased your overall debt by some $60,000, and your monthly cashflow has been stretched an additional $400/month. That is a 44% increase in your mortgage payment.

For what? A bigger house? Do you really need that much more room?

Let’s look at another scenario. Say you capitalized on your gains and rolled it into another, similar priced house. You take the $60,000 to pay down your mortgage, so your total mortgage on a $200,000 home is now $140,000. Your payment on a 30-year 5% fixed rate mortgage is now $751. That is a 22% decrease in your payment.

Now, here is why trading up really is dumb sometimes:

If you took that extra $200 per month and put it into a high-yield savings account at 5%, the compounding interest would give you $167,448 in 30 years! That is more than your new mortgage! And if you took the money you would be saving by not “trading up” to the bigger house ($1395 - $751 = $644) you would have $535,970 in 30 years. So, even if you can afford the bigger house, if you decide to save the money, rather than dump it into a bigger home (with higher costs of heating, etc.) you can have almost half a million dollars. Just see what you are giving up!