Forget the Mansion: Why Buying Bigger Doesn't Guarantee a Rich R

Forget the Mansion: Why Buying Bigger Doesn't Guarantee a Rich Retirement
The Wall Street Journal Online
By Jonathan Clements

This is one tab the house won't pick up.

It's among today's most popular retirement-savings strategies: Buy the big house, hope the real-estate boom continues and then trade down at retirement, thus freeing up home equity that will pay for years of early-bird specials.

Sound appealing? Trouble is, you will fork over a heap of dollars -- and you'll end up with a surprisingly small nest egg.

• Living large: To understand why, imagine you are age 35, have a $400,000 home with a $300,000 mortgage and are looking to retire at age 65.

What's the best way to build yourself a nest egg? You might stick with your current home, pay down that mortgage over the next 30 years and stash your spare cash in stock and bond mutual funds. Call this the "small-house strategy" (though, in many parts of the country, a $400,000 home wouldn't be exactly small).

MONEY PIT
Buying, selling and owning real estate isn't cheap.

* Baby-boomer homeowners spent an average of $2,200 on home improvements in 2003.

* On a $200,000 mortgage, closing costs will typically cost you around $3,000.

* In 2004, home sellers paid real-estate brokers an average of 5.1% in commissions.

Sources: Bankrate.com; Harvard's Joint Center for Housing Studies; REAL Trends

See how you'll fare with a small-house strategy.
Alternatively, you could opt for the "big-house strategy" -- trading up to a $1 million home and aiming to pay down the resulting $900,000 mortgage between now and retirement. At age 65, you would then cash in a big chunk of your home equity by swapping back to the equivalent of a $400,000 home.

Which strategy would leave you richer? To make sure today's real-estate junkies don't quibble too much, we'll make the assumptions favorable to the big-house strategy.

For starters, let's assume you could get a 30-year fixed-rate mortgage at 6.5%. The $900,000 mortgage would cost you some $5,700 a month, versus $1,900 for the $300,000 mortgage.

Let's go further and ignore any real-estate commission you might pay today to sell your $400,000 home and trade up to the $1 million house. We will also presume that, when you sell at age 65, you can unload the big house without paying any capital-gains taxes or any commission to a real-estate broker.

Meanwhile, we'll peg your home's price appreciation at 5% a year, versus 3% for inflation. That two-percentage-point annual real return is right in line with the historical average.

"People might look at this and say, 'Five percent on my house is ridiculous; I'm getting 14%,' " notes Charles Farrell, a financial consultant in Medina, Ohio, who helped me with this analysis. "But you aren't going to get 14% a year for 30 years."
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