If you find an article about the cost of housing, it likely tells one of two stories: “Everything is Terrible” or “…And it’s Always Been That Way”.
The former show this graph focusing on the cost of housing - and those that are less sensationalized mention that salaries have risen over time:
The latter remind us that historical interest rates were much higher, making mortgages more unaffordable in the past:
So have things always been this expensive?
To answer that, we need to think about what a mortgage payment actually consists of: a portion going to principal, and a portion going to interest.
While the principal portion still cuts into your cash flow, it has no effect on your net worth: one fewer dollar in your bank account is canceled out by having one fewer dollar of debt - although this equity can only be accessed by selling your house or taking on new debt. In low-interest periods, a higher portion of the payment goes towards principal, making housing technically less expensive.
Meanwhile the interest portion is tax deductible: for every dollar you pay, you’re saving 10-50¢ on your tax bill, and you don’t need to sell your house to realize these savings, reducing the effective cost in high-interest periods.
While we’re on the topic of taxes, property taxes are usually proportional to the cost of housing - a point for low cost/high interest periods.
To simplify, we’ll ignore some of the other costs of homeownership that aren’t tied as closely to interest rates: utilities, insurance, maintenance, HOA costs.
So what do we get if we actually account for tax deductions, property taxes, and money going to principal?
Things have always been terrible! (Except the previous decade)
After a 15 year period of low costs from the global financial crisis to 2022, we had a sudden spike up to costs not seen since the early 80's
The tax-adjusted line is the most interesting one from this series. It’s what affects people’s annual budget, and it’s had the smallest overall movement - it seems that the market trends towards people spending around ¼ to ⅕ of their income on housing, but now it's up to ⅓ - higher than usual, but not ridiculously so.
The story isn’t as clear as a simple line on a graph, though. Increased house prices mean it takes longer to save for a down payment or more time paying PMI, and there have been many changes to the economic landscape over the last 50 years, especially with essential services like healthcare and education, so even though today's costs aren't unprecedented, it could be harder to reduce spending on other items to afford a mortgage.
I’m sure you’re asking, what about [my expensive local market]?
Hopefully you live in Boulder, CO or the Silicon Valley, because I’ve got an answer for you.
In Boulder, housing has been expensive but consistent until recently, where costs have rapidly shot up.
In Silicon Valley - everything is cyclicly terrible. Housing oscillates between being “somewhat” and “absolutely” unaffordable for the average family every 10-20 years. These percentages are pre-tax as well, so it’s important to note that high state taxes and proportionally higher federal taxes on the higher incomes here mean the percent of post-tax money going towards housing is higher.
House prices grew much faster in Silicon Valley than in the rest of the country, mostly in sudden jumps, while salaries increased, but not as quickly or as steep.
Despite the expense, was housing ever a bad investment?
Homeowners wind up relatively insulated to a variety of economic situations - after all, nobody can raise their rent when the cost of housing goes up, and they can take advantage of lower interest rates while being unaffected by higher ones. Inflation also benefits them in a way: If $1 today buys what 47¢ could 30 years ago, $1 of debt from 30 years ago is "worth" half as much.
Covering mortgages first: assuming a fixed rate mortgage, the payment is consistent for the life of the mortgage. With rising salaries and fixed costs, the ratio of payment to income trends down over time. Add in the ability to refinance when rates go down, and we wind up with the ratio being reduced by about ¼ in 5 years and about ⅖ in 10 years a surprisingly consistent amount of the time. And of course in 30 years, all that is left is property tax, utilities, insurance, and maintenance.
For house prices: if housing is an investment, it’s the only investment where it’s easy to go out and borrow four times your initial investment with a fixed rate, noncallable loan. For example, on a $500k house, you’re putting down $100k and borrowing the rest. If house prices go up 20%, you don’t just make a profit of 20%, you double your initial investment. Of course, the reverse is also true: a 20% drop in prices would wipe out all of your equity.
If we look at the 5 year return on investment of housing, we see on average people multiply their initial investment by 2.5x, compared to 1.5x for stocks. While stocks grow faster than home prices, the ability to take out a mortgage and buy a house with 20% down makes housing come out way ahead. 5 year returns on housing are positive in all years of purchase except 2004-2008, where the unluckiest lost all their equity, and recovery to zero took about another five years.
Also, investments are not just about total return: while stocks have a significant liquidity advantage, real estate has very favorable tax treatment (especially investment properties) when compared to the taxes on capital gains and dividends from stocks. Plus, there is a investment-like benefit of the locking-in of housing costs mentioned earlier: buying your primary residence is almost like buying a lifetime of futures contracts on rent prices, including options on interest rates - someone more familiar with finance can calculate what that should be worth, but the price-to-rent ratio is essentially what the market says it is worth.
So is everything terrible? It’s all a matter of perspective. Before collecting this data, I went into this thinking that things are uniquely bad now - the pan-generational conceit - but that honor goes to the Volcker-era homebuyers. Looking at this data was enough to convince me to bite the bullet and buy a house in 2024, despite prices and rates being much worse than when I bought in 2019, 2021, and 2022 (I move a lot). After all, you need somewhere to live, and costs do tend to go down over time.
Other Interesting Charts
Some things have stayed surprisingly consistent over time, such as homeownership percentage, and the cost of rent compared to median incomes.
The number of new housing starts (new housing unit construction) vs. number of households has gone way down, causing a major supply vs. demand issue for housing. Despite the populist desire to blame Wall Street or foreigners buying up all the houses, neither of those are the case here: institutional landlords own <0.4% of single family homes, and non-resident foreigners are <0.8% of purchasers.
Further Reading
Methodology & Assumptions
- Assumes married couple filing jointly, making median household income, purchasing median house.
- Assumes 1% property tax rate for whole US, 1.25% in SV, 0.6% in Boulder.
- Assumes 4% state tax rate on the median income for whole US. Boulder is exact, CA assumes 9.3%.
- Assumes property tax is deductible in US and Boulder data, assumes nondeductible in SCV until 2018 due to the TCJA SALT cap
- Assumes up to $1M of mortgage value is deductible until 2018, $750k after due to the TCJA
- Assumes ratio between household and individual income 1971-1983 is the same as 1984-1986 (1.604:1), as earlier data is individual only
- Assumes ratio between household and individual income 2023-2024 is the same as 2022 (1.105:1), as later data is individual only
- Assumes ratio between household and individual income is the same in Boulder and SV as the rest of the country.
- Assumes 2024 incomes are the same as 2023 incomes
- Assumes ratio between Boulder/SCV incomes and national incomes are the same in 2023/2024 as 2022.
- Assumes in 1995, a house cost $164k in Boulder, $216k in SV, and $101k in the rest of the US.
- Assumes interest rates same in entire country
- Interest percent assuems first year of mortgage when portion of payment going towards interest is highest.
- Silicon Valley defined as San Jose-Sunnyvale-Santa Clara Metropolitan Statistical Area
- 5/10 year cost reduction assumes refinancing of entire original mortgage balance, actual payment likely lower with lower mortgage balance, and possible better rate due to lower LTV.
- "Stocks" refers to S&P 500 nominal return, no leverage, dividends reinvested
- Ignores changes in size and quality of housing. A house built in 2023 is likely bigger and better than one from 1971, but since the number of housing starts per household is way down, we're still buying the same houses anyway.
- Income data is yearly, mid-year values linearly interpolated
- Rent vs income data is CPI-U rent index divided by median household income, scaled up to match American Community Survey 2019 rent data.