Help a Reader: How to Invest

Here's an email I recently received from a reader:

I am 31 and my wife is 30. We have a 1.5 year old son. We have no debt and are currently renting an apartment. We live in Orange County, CA. I am gainfully employed and my wife is a stay-at-home mother to our son and will continue to be so until we are done having children and they are older. I am in the software development industry and don't foresee being unemployed any time soon. We would like to purchase a home in Orange County in the next 3 years. I would like to pay 20% down and avoid PMI if at all possible.

My question is whether I should continue to keep my normal investments (all mutual funds) or sell all or part of them to up my retirement investments or general savings. I'm currently not adding anything additional to them and only to my retirement and 529 accounts. The mutual funds were opened around 2004-2005. They were of course doing really well until the market crashed.

I'd like to not give all the financials as this isn't a profile post. I will mention that on a normal month, ~$415 is for Roth IRA, $100 is for 529, and $300-700 is saved depending on my programming side income.

Current stats:

• General savings: ~$44K (after we receive our expected tax refund...still waiting on all the forms to arrive in the mail)
• Non-retirement mutual funds: ~$41K
• Roth IRA: $17
• Rollover IRA: $19K (2 previous employers)
• 401K: $2K (only employed 6 months)
• Lending Club: $3K
• 529: $3K

Work specifics:

• 401K: 25% match up to 6% for a total of 7.5%
• employee stock matching: I can contribute 15% yearly and 33% of that is matched 1 year later (ie: $1000 in a single year invested after 1 year gets $333 free). I am free to sell the stock after it hits the account immediately and that is exactly what I am doing now.

Possible choices:

1. Do nothing and keep adding money to my retirement/529 accounts. I have not yet opened a Roth IRA account for my wife.

2. Sell all of the non-retirement funds (market is rather high now) and add $40K to my general savings. Houses in decent areas are near $400K thus requiring a large down payment. My wife is putting the pressure on me to get a place before my 1.5 year old is in kindergarten.

3. Sell all of my non-retirement funds and put part into my savings and part into a Roth IRA for my wife. I guess I technically have until April 15th to open one for her to have it apply to 2012.

4. Sell some of the funds but not all of them. I like the idea of having money in the market that is somewhat liquid, although since putting it in around 2005, I have not touched it at all. I don't see a need in the future to touch it and the initial thought was that I'd keep it in there for retirement, but I'd rather not have to pay the capital gains taxes year after year, albeit small.

There are obviously many different scenarios, but those are the first 4 that come to my head. My primary reason for asking for advice is that the market seems to be up at a point that I've never seen before and this might be a good point to dump some of those mutual funds that I've held onto for a long time and put the money elsewhere.

Suggestions?

What's your advice for him?

Comments

[My Financial Independence Journey]

I think you already have the answer, but you haven't picked a goal. As I read this I see that you may want to save more for retirement, or you may want to open a college savings account, or you may want to buy a house.

I'll even though one more may in there. Maybe you should use your savings to develop passive income streams.

My recommendation would be to prioritize your goals and then direct your savings along those lines.

[Mrs. Pop @ Planting Our Pennies]

If he's looking at selling because he thinks the mutual funds are over valued at the moment, I'd recommend doing some research into the asset he's looking at buying - real estate - to make sure it's not similarly overvalued.

After all, the worst scenario would be to realize some taxable gains on an over valued fund, then throw that money into over valued real estate while paying big transaction fees in the process.

[Bryan B]

I agree with the other poster, that you need to pick a goal for yourself!

Financially speaking it is probably smart to open the Roth IRA for your wife or position your free capital into an investment that is available to you (whatever that may be: savings, CDs, certain index ETFs, etc) for buying a house (if you decide to and finish your research).

I tend to agree with you in that I am getting an itchy trigger finger on my investments also. For clarity, I mean my non-retirement investments. If I were in a position to buy an affordable house or piece of land in a desirable location (no suburbs for me, though public school is a concern), I would be all over it to lock in some low interest rates to help hedge against a possible weakening of the dollar and to diversify my net worth.

My rule is NEVER SELL for my retirement accounts (rebalance is okay) and to maintain at least 50% of my automatic investments (I have about 10 scheduled per month for the same account for dollar cost averaging) per month which seems to serve me well.

[Roy]

My opinion is to have an emergency fund then get the full match on 401k then contridute the maximum to both Roth's. The rest would go to paying down upcoming mortgage(don't buy anymore house than you truly need). I am not a fan of 529's and would not contribute unless I had maxed out all other retirement account options because most retirement accounts can be used for education without penalty or tax one way or another. Possibly when the children are college age your spouse can return to the work force to help cover college expenses.

[Luis]

I vote for keeping your mutual funds in place. I feel like your new goal is to save for a future home purchase. Go ahead and project how much you'd need to save for a down payment in three years. If you need to draw outside of your home fund at that time then I'd look to sell part of your mutual funds. Of course this way you have less control over share values when you sell but there is a way you can create a tax advantage situation to reduce capital gains. The year you plan to buy q home time it so that you make your purchase at the beginning of the year. By doing this you will maximize your tax deductions. Then, to top it off when you are in your new home for a few months and settled with your new budget I'd throw any excess income at your 401k thereby reducing your taxable income.

We have no idea what fund values will be in three years, it could be up it could be down. But at least there are some forces you will be able to control.

[DIY Investor]

I love working with clients like you. You're young and seriously thinking about your financial future.
I agree with Roy that you should take full advantage of the matches you have available.
On the market timing aspect. I suggest you pick an asset allocation you can stick with and avoid guessing when the the market is going up or down. It will give you peace of mind, let you concentrate on things you can control and likely avoid missing market moves.
I don't know if the market is going higher or lower. I do know that the market P/E peaked in 2000 at 28.2x and in 2007 at 16.8X. Today it is at 14.5X. At both those prior peaks there were stock bubbles (dot.com and then banking). Today's bubble is in bonds which could cause a big flow into stocks.
John Bogle (who has been around the block a few times) has said he never met anyone who could time the market and never met anyone who knew anyone who could time the market.
Look at a downturn as an opportunity to up stock participation. What you care about is where stocks are 30 - 35 years from now - not the short run!

[daniel]

I think you should definitely consider funding the wife's IRA. Regarding market timing of the investments, I agree with all of the feedback given, but if you're serious about buying a house in the near future, I think it's valid to dump your mutual funds, if you believe they harbor a serious enough risk that it would cause a setback to your house goal. Do it if you think your investment asset is currently overvalued and you have serious enough concern about being able to cover the down payment. Just be sure you can be content with that decision.

[NK]

I'm the reader.

@My Financial Independence Journey
We already have a 529 for my son. I don't currently have any passive income other than savings account and lending club, but I do have variable side income developing software outside of work.

@Mrs. Pop @ Planting Our Pennies
Good point about real estate being overvalued. I currently do think it is overvalued in Southern CA, but banks seem to have a stranglehold on the supply, thus jacking up the prices. A large portion of the homes are also going to Chinese investors who swoop in and pay 100% cash. The rest are FHA buyers. This is one reason I want to wait another 2-3 years.

@Bryan B
I'd say my #1 goal is to make sure my retirement accounts are solid (they are) and then save up for a home. I'd love to also be able to take advantage of the low interest rates, but with them come prices that are a lot higher than they should be. I'd prefer higher interest and lower principal, but it looks like low rates might be here to stay for a while.

@Luis
Great point about selling the year I want to buy a house! I will definitely do some more research into how that works.

@DIY Investor
I'm taking full advantage of the match at work, which unfortunately is only a small 25% on up to 6% (1.5%).

@Daniel
I honestly don't know if they are overvalued or not at this point in time. I'll do some additional reading up in places like MorningStar to gain more clarity.

Thanks everyone! Great feedback!

[Jim D]

Do you itemize or use the standard deduction?
If you itemize (and donate to charities) and if this asset has appreciated and you think this asset is overvalued, you might consider donating it. You would get the market value as a deduction and there is no transaction cost.
Seems like alot of 'if's but could be an opportunity to offset converting your rollover IRA into your Roth.

[billyjobob]

Just wanted to remind you that you can pull money from a Roth IRA for a first time home purchase. So wahtever you do, I think you should max out the Roths. your money will grow tax free and I don't think you pay taxes even if you use it for first time home purchase. Not sure of that though.

[Apex]

@Luis,

Your tax advice is not accurate.

First, there is no advantage to buying early in the year.

The only tax deductions you get for a house are for interest and property taxes if you itemize. Those are all real expenses. If you buy later in the year your expenses in those categories will be lower for the year thus your deduction will be lower.

By the logic you are promoting he should try to get a high interest rate and buy in a high property tax neighborhood. That will really increase his deductions.

tax deductions are vastly over-rated. They are only a benefit in that they offset costs you have already incurred. They are not a net positive. The smaller your housing tax deductions the better because it means your costs were lower. High expense related deductions are never a good thing. They simply equate to higher costs. (Accelerated depreciation of capital expenses can be a slightly different story but is not relevant here)

Secondly the idea that these higher deductions reduce capital gains is not true. They are not the types of things that offset capital gains. Only capital loses can do that. They are simply deductions. They are worth the same amount whether you have capital gains or not. In addition, they don't get deducted against his capital gains income. They are deducted from his ordinary income. The capital gains will be taxed at the flat rate of 15% regardless of how many other deductions he has. Almost certainly he is in the 25% bracket or perhaps even 28%. His deductions for housing will offset income in that bracket. His capital gains will be at the cheaper 15% rate and will be unaffected by his itemized housing deductions.

[retirebyforty]

It sounds like your main goal for the next few years is to buy a home. I would start beefing up your liquid fund so you can pay down 20%. Housing in Orange County is quite expensive so you'll need a lot of money. You wouldn't want to deplete all your cash saving in a down payment either. You'll still need some emergency fund so you'll probably need 100k by the time you're ready to buy. Or else just put down 10% and pay the PMI.

[NK]

@RetireByForty
I'd like to avoid PMI, if possible. I especially want to avoid FHA since now the fees last the life of the loan (starting in April I believe).

@Apex
Thanks for your clarification about the taxes.

[Kurt @ Money Counselor]

If your aim is to put 20% down on a house (and I think that's a laudable aim), I'd lock up that down payment now by selling as much of your non-retirement mutual funds as necessary. You've got $44k in 'general savings;' I'd preserve that and perhaps top it off to $50k as an emergency fund, particularly since yours is a single income family and will be for some time. So your house down payment fund would be separate from and in addition to the $50k emergency fund.

Once that's done, max out all available retirement saving vehicles, for you and your wife. You may also have "planned savings" pools you want to fund and keep in an FDIC-insured bank account for specific significant purchases like a car, vacation, or major appliance. If there's cash flow left, continue funding 529s and add to your non-retirement investment portfolio. However, pay attention to diversification, and be careful of taking too much risk. Focusing this cash in equity mutual funds alone is a mistake--too risky--in my opinion.

Good luck!

[Old Limey]

I live in California, in Silicon Valley and recently homes have been selling like hotcakes. The longer you wait to buy your home the more you will end up paying for it. I'm a retired aerospace engineer and bought our first home in 1963 for $27K (I was 29 with 3 and 5 year old girls and our boy was on the way), then sold it in 1977 for $90K. We then added some more money and bought a home in the best custom home development in the city for $107K - that home is now worth about $1.3M. My wife was also a SAHM mother when we bought our first home and went back to work when the kids were older. We put 25% down on our first home in order to get the best loan we could which was 4.5%.

Your job is very secure, as was mine, you have one child and want others so now is the time to buy. If you put it off you will come to regret it. Nice homes always seem somewhat overvalued but just imagine what that home will be worth 10-20 years from now. You need to take the long view and buy ASAP. Currently in Silicon Valley homes are selling over the listing price with sometimes 8 or 9 offers. These days young couples like you tend to buy homes that need some work and after the work is done they really stand out because of the care they have received. Just live as frugally as you can while you are raising your kids and put as much as you can in your company retirement plan and I'm sure you will do just fine.

[NK]

@Old Limey
My concern (whether realistic or not) is that the bulk of homes being purchased in my area are either by foreign investors or by FHA borrowers. To me this means that local incomes don't match the asking prices. Is it reasonable to believe that eventually the investor pool will lessen and the houses will stop selling so quickly? You are right though in the grand scheme of things the house will appreciate in 10-20 years. Recently we started researching schools and the ones in the city we live are poor. We are starting to now look in better areas. I would like to start visiting properties this year, even if we don't buy for a few more.

Our saving grace is that we will be renting a 3 bedroom home from my parents in August. That will at least give us room to grow the family for a few years. However, I would rather not be there when my son starts school as the area isn't the best.

[Strick]

First thing is to figure out the goal.

IF the goal is to pay $80K for a house downpayment in 3 years, and still have an emergency fund (I assume this the 40K), then you still need $80K more in savings. I wouldn't invest money to be used in 3 years in the market (which is the same thing as leaving it in there), so I'd sell unless theres some tax reason not to (and sounds like not a lot of gains from your description).
That means you've still got some more money to save up even after selling the funds before you start putting most savings into the market.

I'd also look at your investing. I'm not sure how somebody who start investing in 2004/2005 and not retired is still referencing the market crash (the crash is over, we're way above 2004, the money put in in and at new highs on many fronts....for now ...)

[NK]

@Strick

Of my 5 mutual funds, only 3 of them have exceeded the 2004-2005 prices. I didn't check that before emailing FMF. I may want to wait 6 months and re-evaluate if I've even broken even with all of them.

I also don't think I would need a $40K emergency fund. My current budget puts all the money into separate categories and most of them are savings for things like health, vehicle replacement, car repairs, tithing, etc., that if need be, could be temporarily suspended if I lost my job.

[SR]

NK,
Congrats to you on your financial situation and family decision to go single income. I am just coming out the other side where my last child will be graduating. My wife and I made it on a single income and I am planning on retiring in my early 50's. I had a similar job in engineering, modest to good income. It was tough at times. I had to watch friends move into these beautiful houses wondering how they could afford it? Well, I guess they couldn't in the end.

Having seen those times, I would echo old limeys urgency on buying a home. I have never seen it this affordable in my lifetime when you look at price and rates. I understand your reluctance to take on PMI, but maybe I could reframe it a little to where it would make sense.

If you have a 30 yr mortgage rate at 3.5 % and PMI adds an equivalent of maybe 1%. Your total borrowing rate could be thought of as 4.5% and it is tax deductible. If you look at your mutual funds, history will tell you that you will probably get 7-9% return on those. So if you look at it from a 30 year window, why would you sell a mutual fund that gets 8% return to save borrowing costs that only run 4.5% and are tax deductible?

I have taken this philosophy my whole life. In fact today I still have a large mortgage but I have made far far more money in the stock market 3-4X. And, rates were much higher for borrowing than they are today.

Hope that helps, and don't fret too much, your future looks bright!

[NK]

@SR

Thanks for the kind words.

I'm not a real estate or financial expert, but if the majority of the homes in Southern CA are being sold are either all cash or FHA, doesn't that imply that housing is not affordable for the majority of people? Someone please set me straight if I'm off the boat here.

[jim]

NK, you say :

"the bulk of homes being purchased in my area are either by foreign investors or by FHA borrowers. To me this means that local incomes don't match the asking prices. Is it reasonable to believe that eventually the investor pool will lessen and the houses will stop selling so quickly"

I would counter that homes have not been particularly affordable in most of California for a long time. I don't expect that to change and I don't expect people to just stop buying homes due to the high costs.

Also, why do you think most buyers are foreign or FHA? The % of foreign buyers is not something I see tracked much for local markets. Also a 'high' % of foreign buyers may mean 5-10%. Also, foreign immigration into CA has been relatively high for a while and isn't likely to stop.

To sum up that situation may be 'par for the course' and may not stop anytime soon.

[Apex]

@NK,

Or that not enough of those trying to borrow can qualify for the loans because of the bank's tight lending requirements. I have been purchasing rental property for over 4 years and every year the banks get tighter. Housing is getting better but the banks keep getting tighter. When banks losen their lending standards up that may bring in a whole set of new buyers. That will increase demand and econ 101 tells us what that does to price.

Banks are still stingy as heck with the money which is why the cash buyer is so prevalent right now. Most American's aren't sitting on a pile of cash so if they can't get financing they are simply out in the cold. They have no way to purchase a property. If not enough American's can get loans and not enough American's have cash that will keep prices lower than normal and attract foreign buyers.

If there are foreign buyers coming into your market to buy right now that likely means they see the price as a good deal (real estate is available all over the world, why are they buying in CA? Did they just wake up to the CA climate in the last couple years? Or maybe they want to own in CA for the good tax rates. :) ) If the foreign buyers are coming in to buy that is likely to continue until such time as they don't think the price is good anymore. That will not create a crash, simply a plateau if that were to happen, unless they all then decided to sell. Do you think the foreign investors are flippers? I doubt it. Waiting seems unlikely to result in lower prices.

I am not saying you should buy, it's just that you seem to think you are reading an abnormality in the market that implies a bubble and cheaper prices in the future. But the foreign cash buyer and FHA buyer would instead imply to me a lack of availability of credit which would imply the opposite of what you have concluded.

[Bill]

NK, as mortgage finance "expert" I disagree with your view on the Southern California real estate market but first I had a couple of points regarding your investments.

It is irrelevant whether the mutual funds in which you are invested are underwater from where you bought them in 2004-05. The only thing that matters is what they are worth today (ignoring any tax implications). Waiting until they are "profitable" doesn't make any financial sense although it's a trap many investors professional and not fall into. Out of curiosity what type of funds are you in that are down from 20005 levels? The S&P is up 40% from 12/31/05 to 1/31/13, any fixed income (non-credit) fund would have absolutely killed it over that period. I can only think of one asset class that has lost money over that period and that is real estate.

Real estate is has cheapened dramatically over that time period, in Los Angeles home prices are down 33% from 12/2005 through 11/2012 according to the Case Shiller HP index. At the same time mortgage rates are at their lowest level in history. These combine to make homes quite "affordable". You can look at metrics like the CAR Affordability Index. That calculation takes the median selling price for a home, the average mortgage rate available, average property tax and home insurance rates and calculates the cost of financing a home assuming a 20% downpayment. Assuming that a household will spend at most 30% of it household income on a PITI they find what percentage of households can afford that median home price. For Orange County it's currently 34%, 34% of households can afford a mortgage payment on the median priced home without spending more than 30% of their income on it. For reference in 12/2005 that metric was 10%. So housing in Southern California has gotten much cheaper since the peak in 2006.

There's plenty of argument to be had about whether that affordability index is a good absolute measure, but as a relative measure it works quite well. Housing is A LOT cheaper today than it has been for a long time. That might still be too expensive in your mind but the market doesn't agree with you. That home price index I mentioned earlier is up 7.7% in the past year and 11% from the low in Los Angeles. Home prices are definitely on the way up in your area. Maybe they turn around again and waiting to buy is a good idea but I can tell you that the mortgage market does not believe that is the case. Prices on credit sensitive mortgage products are at their highest levels since the crash.

The prevalence of FHA financing is attributable to lack of non agency funding in the mortgage markets. IN 2005 approximately 50% of mortgage credit risk was being taken by the private market and 50% was being funded by government sponsored entities (Fannie, Freddie, FHA etc). Today that's about 5% private and 95% government. With that pullback in lending underwriting standards have gotten much much tighter. If you can't put 20% cash down then FHA financing is really the only game in town. Essentially anyone who has the minimum 3.5%-20% downpayment available is pushed into an FHA loan where as previously a better option would be available for the guy who has 10% to put down.

The foreign investor purchases using 100% cash is a very real phenomenon and it's an extremely bullish sign for the market. These investors are buying homes because of their low valuations, they pay 100% cash because it vastly simplifies the selling process. A wealthy investor who can put his money anywhere in the world but decides to buy the illiquid, piecemeal, headache of an investment that is raw real estate in a foreign country is doing so because it is cheap not because it is rich. When Joe your neighbor decided to buy two homes in the new development in town with a teaser rate option arm planning to flip it in a month is the sign that the market is overbought.

[Bill]

Apex made my points a lot more concisely.

[Mark]

I have to agree with the others about CA real estate. CA prices are always horrible and have been for at least the last 2 decades. It's not going to get better. That doesn't mean you should mortgage yourself to the hilt like so many people. It might actually mean you should move out of state to avoid the rat race or being house poor.

[kitty]

About homes being "overvalued" - one way to check is to see the relationship between the rental and the purchase price i.e. the house P/E. Take the purchase price of the house and divide by the amount it'll take to rent this house for a year. According to some sources like Moody the long term average is 16. So if the result is greater than this number then it's overvalued, if about the same then the price is about right, and if it's less than it's undervalued. I'd also consider the fact that investors - foreign or not - want it means that they think they can get profit on it.

The situation with investors buying up places is the same here in Southern NY State. A friend of mine (with cash) recently lost on a purchase of property (for cash, but his offer was 10% below already lowered asking price) to someone else, also an investor with cash. Apparently, there were 3 investors with cash bidding for the same property. Now, the property was already valued lower than others but needed a little bit of work. A real estate agent said that he lost a deal on a townhouse when an investor with cash (for a 515,000 townhouse - sold to investor for 495,000) appeared before his clients were ready to sign. Not sure if they were foreign or not, but it doesn't really matter.

But rent/price calculation showed that the prices are relatively low. They are at around 2004 value, but you've got to consider inflation. Also, consider for example a 200,000 property that could be rented for 1600 a month. If purchased for cash and taking into consideration taxes/common charges, it could net about 5% a year return on the money (not even considering tax benefits like depreciation). Not something you can easily get these days.

I think you should also calculate how much you are paying in rent and compare it with expenses of buying a similar property.

But I agree with people who tell you to think of what you want to do. If you want to buy a house, you'll need the money for the downpayment and closing costs.

[Old Limey]

@NK
I echo your statement about stressing the importance of raising your family in an area that has excellent schools and a low crime rate. In the greater San Jose area there is a very strong correlation between the crime rate and the demographics of an area. There are areas where, now as an older couple (78 and 79), we would hate to be living for pretty obvious reasons.

We live in the center of Silicon Valley but in a town of only 117,000 people. A prosperous town that already contains the SF 49'ers training facility and is currently building a new stadium for the 49'ers that will start operation in 2014. We have a small but excellent city government that is in a great financial condition because of the taxes from the many major coroporations based here. We also have a convention center and the oldest institution of higher learning in the state (incidentally where I received my MS degree at my employer's expense), as well as a first class law enforcement department.

Another interesting fact is that the nearest major cross street to my home is the boundary between two school districts. Both districts rate highly in the published county wide test scores but one of them has attracted a great number of Asian families and it's pretty well known that the newer Asian families stress education over sports and recreation with the result that homes in their school district sell for several thousand dollars more than comparable homes in the other school district.

Another good attribute of our county is that it is home to 10 junior colleges. These are all reasons why it is important to consider the reasons I have outlined when you are choosing the home where you plan to raise your children and possibly, like us, also spend your retirement years.

The sooner you can buy your future home the better. You are plenty young enough to have many, many years ahead where you can concentrate on building up your investments.

[NK]

@mark

I would love to move out of state if it didn't require leaving 90% of my family. The support is too great to leave behind so we will most likely need to buy what we can afford and not look at how much we could afford out of state :)

I am short on time now but I GREATLY appreciate all the long and thoughtful responses. Very helpful! Thank you FMF for the opportunity to have this Q&A format available.

[Old Limey]

@NK
Sometimes a young married couple has to do what they have to do for the benefit of themselves and their future family. In our case my wife and I emigrated to North America from England 3 months after we were married with $400 between us. Prior to WWII England had the largest empire in the world and a great many young Brits left their homeland for positions in the colonies to serve in places like India, China, Kenya, Canada, Australia, New Zealand etc. as civil servants, police, military, teachers, engineers etc. There was a long tradition of serving in the colonies, and both sets of parents fully supported our move, first to Canada and then to the USA. We have never looked back and are convinced that our decision to emigrate was the best one that we have ever made after meeting in 1950 and getting married in 1956 when I was 16 and she was 17.

One other thing that I forgot to mention about our city is that it is one of only two cities in the SF Bay area that has its own electric utility called Silicon Valley Power. The service has been extremely reliable and we pay about 40% less for our electricity than the cities that are served by Pacific Gas & Electric Co.

[Rob @FinancialSprout]

If you really want that house, you may have to shuffle around your assets for the down payment. My brother had a website that he was generating $500 a month from, but he sold it for 19k this week to put a down payment on a house. Just do what your gut tells you and what you think is best for your family.

[NK]

@Old Limey
Our city currently has its own power grid also and I agree the lower rates are great!

[NK]

@Jim

I believe back around 2000 prices were fairly reasonable compared to incomes in CA. What might be the new standard is both parents working, so if that's the case, the average income for Orange County might be much higher than what is reported. If you are correct, I don't really have much of a choice. It all will boil down to how fast I can save up that down payment.

[NK]

@Bill

I was incorrectly looking at my mutual funds charts. They are all above 2004-2005 levels, some much more than others :)

I'm curious about your opinion/outlook of FHA instituting fees for the life of the loan for new loans after June. Without 20% FHA would be my only option and it now appears I will definitely not take that route.

[NK]

@Rob

As nice as it would be to be raking in the dough blogging, I could never handle the headaches and upkeep. I see far too many people create blogs with the intention of making big bucks and after years and thousands of hours have very little to show for it. For side income I do programming on the side and charge a flat, hourly rate (I made $15K last year but probably won't do that good in 2013). I don't like working for free or hoping that in the future a skill will generate income :)

[Old Limey]

@NK
Today's headline in the San Jose News, Business Section, reads:

"Home prices UP 24% year over year."

Don't let that home get away from you any further than it already has!

[jim]

NK, Yes you're right back in 2000 the prices / incomes were better. But then thats after a housing price bust in CA in teh late 90's plus some pretty healthy income growth around the internet boom. Back in 1990 the home price / income ratio in CA was much worse than in 2000. We just came off a housing bust and I wouldn't expect prices to drop in the short term but instead recover and go back up. Course I don't have a crystal ball.

And I agree you are generally going to be better off doing free lance programming than trying to make money on a blog. But note that Rob didn't explicitly say 'blog' he said website which could be a lot of things.

[Nick @ ayoungpro.com]

If I were in your position I would sell all of the non-retirement mutual funds to put towards a house payment. Take advantage of the real estate market while it is depressed (as opposed to stocks which are high). You will get great increases in the equity in your house through the natural normalization of the real estate market. Keep investing in retirement accounts and add money back into your liquid savings as possible.

[NK]

@old Limey and anyone else

I think part of the reason for that is extraordinarily low interest rates. I doubt that monthly payments have risen 25% year over year, but I could be wrong. The record low interest rates appear to me to be manipulation by the govt to keep home prices from collapsing again. Again I might be reading what I want to hear out of recent housing news. How much lower can rates go? In 1 year will they be at 1% with prices rising another 25%?

[CL]

My priorities, if I were in your shoes:
1. Max out the 401k and stock matching. Too good to pass up. (Sell the stock after the matching hits, and apply the funds to your other priorities.)
2. Fully fund the Roth IRA and the wife's Roth IRA each year.
3. Cash out the mutual funds and add to savings as a "house purchase savings fund." Funds you need near-term don't belong in stocks.
4. When savings will support ~6 months of living expenses (emergency fund) plus a 10-20% house down payment, start house shopping.
5. Once the house is purchased, focus on paying down the mortgage to cancel PMI (if applicable).
6. Then work on adding to the 529.

[Apex]

@NK,

You seem determined to find a way to justify that artificial things are increasing house prices right now with your theory now being interest rates are inflating prices in the last year. That is not true.

Wells Fargo's mortgage rates have been a very good representation of some of the better mortgage rates for the last couple years. I have tracked the Wells Fargo mortgage rate every month for the past 4 years so I know exactly what it was at any point in the past.

Today the rate is 3.75% on a 30 year fixed. 1 Year ago it was 3.875%. So any price increases in the last year have translated almost entirely to higher payments. Almost none of the increase is due to interest rate changes in the last year. Mortgage rates have hardly budged for more than a year. Even 4 years ago they were only at 5.0%.

You are probably right about one thing though. Interest rates will probably be higher a couple years from now, but the houses will likely continue to increase in price as credit becomes more available. We are coming off of a bottom in housing. The bottom is in. Anybody still waiting for cheaper prices has missed the boat. She sailed last year. Housing depreciation is very unlikely to occur from here in the near term. All real estate is local and parts of CA certainly do their own thing but real estate is likely to be in a slowly appreciating market for the next 10 years and also in a slowly increasing interest rate market. That means higher payments every year.

[Old Limey]

I agree with Apex, NK is basing his opinion on the housing market on what he hopes will happen rather than on economic realities.

Housing prices hit bottom after a gruesome slide but are now in a strong recovery. As Apex says, "Anyone still waiting for cheaper prices has missed the boat, it sailed last year". In Silicon valley, a house that was $800,000 a year ago is now selling for $1,000,000.

You can't live in a dream world and think that what you would like to see happen will happen. It's the same with the stockmarket. The difference is that people can sell stocks quickly and easily and will do it at the drop of a hat. Residential property is far different. I don't even think of our home as being part of our net worth. I think of it as a material asset that I own outright and the place where I live. I feel the same about our two Mercedes that we have owned for many years. The people that I feel very sorry for are the poor souls that I see pushing their shopping carts piled high with plastic bags containing their life's possessions. I often wonder, "Where did they screw up?", and what would their life stories be like.

Looking back on my own life from the vantage point of a 78 year old, the really good decisions stand out and fortunately there aren't any bad ones. There have been missed opportunities. One was in 1977 when I wanted to move to a pricey nearby village called Saratoga and I was offered a beautiful 1 acre wooded lot for $20,000. After discussions with my wife she convinced me to let our children stay in their current schools so we moved, but only a mile away to a much nicer development. That 1 acre lot in Saratoga today would be worth $2 million.

One lesson that life has taught me is that it doesn't pay to be an habitual procrastinator.

[Luis]

@ Apex

I believe you are wrong about the potential benefits of capital gains vs tax deductions. First, I did some research to see if my tax advice would apply to NK in his situation, but unfortunately his numbers to not support any benefit. That is not to say that my advice is not applicable to anyone.

So let us say that NK had 41k of capital gains as opposed to 41k in total assets. Then, contrast this information against the following two possibilities:

1. NK's taxable income were 100k (after taking the full employer's 401k match and the standard deduction)

vs

2. NK's taxable income were 83k (after increasing 401k contributions and taking itemized deduction from his home, etc).

Enter this scenario in the Qualified Dividends and Capital Gains worksheet and you will see that the capital gains is indeed reduced by timing the distribution in the year you purchased a home. In this specific example if you divide the total gains against taxable income you will see that the effective capital gains tax rate you pay is about half of that of the 15% paid under general circumstances. That is a savings of $8000.

[Luis]

I have copied the worksheet and the numbers below to share with you all.

Qualified Dividends and Capital Gains Worksheet

1. Enter the amount from Form 1040, line 43. However, if you are filing Form 2555 or 2555-EZ (relating to foreign earned income), enter the amount from line 3 of the Foreign Earned Income Tax Worksheet on the previous page….

$83,000 vs $100,000

2. Enter the amount from Form 1040, line 9b*….

0 vs 0

"3. Are you filing Schedule D?*
Yes. Enter the smaller of line 15 or 16 of Schedule D. If either line 15 or line 16 is blank or a loss, enter -0-
No. Enter the amount from Form 1040, line 13"

$41,000 vs $41,000

4. Add line 2 and 3….

$41,000 vs $41,000

5. If filing Form 4952 (used to figure investment interest expense deduction), enter any amount from line 4g of that form. Otherwise, enter -0-…

$0 vs $0

6. Subtract line 5 from line 4. If zero or less, enter -0-….

$41,000 vs $41,000

7. Subtract line 6 from line 1. If zero or less, enter -0-….

$39,000 vs $66,000

"8. Enter:
$34,5000 if single or married filing separately,
69,000 if married filing jointly or qualifying widow(er),
$46,250 if head of household."

$69,000 vs $69,000

9. Enter the smaller of line 1 or line 8…..

$69,000 vs $69,000

10. Enter the smaller of line 7 or line 9….

$39,000 vs $66,000

11. Subtract line 10 from line 9. This amount is taxed at 0%....

$30,000 vs $3,000

12. Enter the smaller of line 1 or line 6….

$41,000 vs $41,000

13. Enter the amount from line 11…..

$30,000 vs $3,000

14. Subtract line 13 from line 12…..

$11,000 vs $38,000

15. Multiply line 14 by 15% (.15)…..

$1,650 vs $5,700

16. Figure the tax on the amont on line 7. If the amount on line 7 is less than $100,000, use the Tax Table to figure this tax. If the amount on line 7 is $100,000 or more, use the Tax Computation Worksheet….

$4,984 vs $9,034

17. Add lines 15 and 16…..

$6,634 vs $14,734

18. Figure the tax on the amount on line 1. If the amount on line 1 is less than $100,000, use the Tax Table to figure this tax. If the amount of line 1 is $100,000 or more, use the Ta Computation Worksheet….

$12,816 vs $21,460

19. Tax on all taxable income. Enter the smaller of line 17 or line 18. Also include this amount on Form 1040, line 44. If you are filing Form 2555 or 2555-EZ, do not enter this amount on Form 1040, line 44. Instead, enter it on line 4 of the Foreign Earned Income Tax Worksheet....

$6,634 vs $14,734