Recently, we’ve talked a lot about the hard costs of owning a home. We’ve discussed the costs of borrowing money from the bank, interest rates, mortgages, second mortgages, and the varying value of your investment as the housing market declines and recovers. When faced with the unfortunate prospect of foreclosure, these hard costs are often what bubble up to the surface of your consciousness first and foremost.
But today, we’re going to tackle costs related to homeownership that don’t often get discussed. If you’re a homeowner, in the market to buy, or happy renting for now, hidden costs and sunk costs are important concepts to consider whenever you’re making a big financial decision.
Hidden costs come in many different forms. The price associated with a home doesn’t include closing costs and bills on top of the mortgage, such as renovations, recurring landscaping costs, the installation of an alarm system, etc. If you think you’ll have to stretch in order to make monthly mortgage payments, it’s essential that you consider additional financial obligations that come along with your new asset.
Sunk costs consist of the financial capital you’ve put into something that will never be returned to you. In other words, let’s say that you renovated your house for $100,000 before putting it on the market, and a buyer only wants to pay you $50,000 more than what you paid for it. Your instinct may tell you to hold out and wait for something better. Why? Well because you’ve sunk an incremental $50,000 into your home, and you want to recoup at least what you invested. If the market is healthy, holding out may be a fine decision. However, in a struggling market, that $100,000 is a sunk cost, and buyers are using the market to value your house. If you are in desperate need to sell your home for financial reasons, accepting the initial bid may be the right thing to do.
Instead of focusing on what we’re losing in situations like these, we must focus on what we’re gaining by moving on. Getting stuck on sunk costs and trying to legitimize them may create bigger problems down the road – additional mortgage payments while you wait for a better bid, for example. Selling a home that is a major financial burden for you and your family may feel like a loss, but after you are free from the debt, you can start putting money in something else that can grow. Sometimes trying to recover sunk costs only end up costing us more money in the end.
Focus on what you have to gain, and preempt unpleasant sunk costs by making sure you properly estimate your costs, benefits and risks ahead of time. If you find yourself in financial turmoil with burdensome mortgages or debt, call us at McFarlin LLP. We would like to help.