How to think about debt on a single family house
Have been helping a few people make FHA offers on 3-4 unit apartment buildings. The lenders are very interested in making sure that the buildings are self-sufficient (in other words, that the cashflow from the buildings covers enough of the mortgage payments, taxes, etc. so that the building isn’t a drag on the borrower’s cashflow).
The whole process got me thinking about borrowing on a single family home. When you buy one of those with a mortgage, you’re levering up, just like when you borrow against an apartment building.
But when you buy a home, you’re not levering up against an in-place, passive cashflow from rents. Instead, you’re levering up against yourself. What I mean is, you’re levering up against the cashflow you (and possibly your spouse) create by going to work every day.
This is pretty scary, when you think about it. Leverage has the effect of magnifying outcomes, both good and bad. Take losing your job (a pretty awful outcome). If you don’t have a home mortgage, losing your job is bad but not disastrous. You move out of your apartment and into a smaller one. Or you move in with friends or family for a bit. You may lose your security deposit, but your credit is going to survive more or less intact.
If you have a mortgage, things can get very bad. Your credit will be destroyed at the precise moment you’ll need it to be able to rent an apartment or get a new job (if they check applicants’ credit).
The more I think about it, the crazier I think it is to buy a single family home first. Sure, if you already have an apartment building or some other source of passive income, go for it. But, if you’re dependent upon an employer for the cash to pay a mortgage, buying a single family home with a mortgage is taking a pretty major risk.