You are spot on. Our house equity is less than 1/3 of our total net worth. And we are also looking to buy a bigger and more expensive house. I know we won't be able to save much other than 401k if we do that,but oh well, with a bigger family, we need the extra rooms! I think you are doing a great job!
I would not be too worried about how much of your net worth is tied up in your home equity. Your home is just like any other asset - one to be evaluated on its own merits. However, one way of looking at it is to think in terms of asset diversification. If too much equity is tied up in a single property this does expose you to greater risk should there be a downturn in values in your area. I would expect that the percentage of a person's assets tied up in home equity would decline as a person accumulates savings over the course of their working lives.
Two separate thoughts about trading up. The first is that each time you trade up you incur significant expenses. The second is that a trade up often means taking on a larger mortgage - not always a good thing.
It makes sense not to buy more house than makes sense expense and investment wise. But it is strange to me to not include a reasonable value for your house in your net worth. I'd at least include the money you invested in it, if you think that increases the value. Myself I would try to track the current market value, maybe minus sales costs. But maybe you don't want to see your net worth go down if house prices fall?
Boy, I wish housing was that cheap around here.
A house is a much more complicated asset than an IRA for a lot of reasons: the use value of the house; its emotional value; the hassle of owning one; the limits homeownership place on mobility; its high illiquidity versus other kinds of assets.
All that said, as far as valuing a house for a net worth calculation: you don't really need a highly accurate number, so you might just want to look at recent sales and get a price/sq. ft. number, and use that. You can't price in projected gains--unless you're doing long term (20 yr. or more) projections, in which case 4%/yr. or 1% inflation adjusted appreciation might be used. (Some people transfixed by the recent increase in housing prices might dispute this number, but it has a lot more historical accuracy than the 2000-2005 doubling on the east coast.)
There are some reasonably accurate statistics out there concerning how much certain improvements increase the value of your house, as a percentage of the money invested. (Like, you remodel your kitchen for $5,000, and typically that will increase the value by $2500, or whatever. It's almost never a moneymaker to remodel your house. Replacing a bad roof, though...)
If it were me, I would keep the essential functions of your place in good working order, fix things that would lead to damage, put in insulation that will pay in lower heating/AC bills. If there's some kind of remodeling you're thinking of doing, and it's mostly cosmetic, I think it should probably be considered a household expense, and not an investment.
The general idea to remember is that the less of a house you live in, the richer you're going to get. Because a house is an expense. It builds value over time, but that value will never ever be greater than the opportunity cost of all the capital placed in the house (interest-tax deduction, spread between historical return on equity of housing--4%--versus equities--8%--, maintenance, property taxes, insurance. All of this weighed against rent. Historically, the numbers came in heavily in favor of homeownership, but not now. (I rent a $675,000 house for $1900; the rent vs. buy calculators tell me it would take between 7-40 yrs to break even, depending on assumptions.) Then you weigh the emotional advantages of each: mobility vs. nesting, etc. etc.
Homeownership is such an emotionally laden issue for almost everyone, that many biases play upon our evaluation and decision-making.
All that said, and this post turned out to be far far longer than I imagined, I think it's very wise of you to have a house that is so reasonably priced vis a vis your income. The longer you can put up with it, the better, financially speaking.
What an image she makes. Eating the walls. Reminds me of The Yellow Wallpaper story in imagery. *shiver*
I think that's the reason why I didn't buy 'too much house' for my first condo. I like socking away cash in an actual retirement account since it's liquidable.
I have a coworker who talks about eating his house as well. He took a second mortgage to pay 30K of credit card debt, and he's run the cards up to 10K again over the last 2 years.
I include my house in NW, but I also subtract include (roughly) the costs associated with cashing out the equity, i.e. moving -- the moving company, the realtor's fees, etc. It takes me from having $10k equity in NW to $0.
Following up from Jason's post, the potentially appreciating asset is the land. The house is a depreciating asset which must be maintained to stop losing value. Land will only appreciate substantially in the long-term if it is in a good location.
I'm not worried about the (relatively large, and about to get even larger when my fiancee sells her old house and we refinance that money into equity) percentage of net worth that's in home equity. But this is mostly because "net worth" is a pretty meaningless statistic.
If we were likely to want to relocate, it might be a problem. If we weren't about to be within $75/mo of making our mortgage payment entirely out of interest on more liquid capital, it might be a problem. If we didn't have sufficient savings to cover emergencies, it'd be a problem. If we didn't have enough free disposable cash to save toward other large purchases, it'd be a problem. But none of those apply.
In the meantime, "net worth" is a cute statistic, but as long as it has nothing to do with liquidity, it doesn't really measure anything very important for day-to-day life. And sacrificing either the quality of the house we love, or our security in continuing to afford it, in the name of a relatively meaningless statistic seems madness.
Nice article. I agree that any equity in your primary home can make your net worth seem far better than it is. After all, we can't realize this equity until we sell the damn place - and then where do we live? I don't include the value of my home or my mortgage in my net worth calculations at all as I know it would make me feel better off than I an. I want to feel poorer than I may actually be in order to force me to pay off my credit card debt and concentrate on building savings and investments.
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