Many people say the "invest" in their homes. But a home is not an investment. It is an item that loses value through deterioration even if no one lives in it. A home is expensive to finance, expensive to maintain and expensive to buy or sell. Ironically, it is also very costly to realize the loss of value on a home. How can it be? Well there are two costs that few consider:
(1) Did you know that if you sell your home at a loss and the bank agrees to cancel your mortgage for less than you owe, your taxes will rise? It's true. The IRS considers forgiven mortgage debt to be a payment to the homeowner, and it's not considered a capital gain but rather is taxed at the ordinary-income rate. But wait; it gets worse. Suppose your income that year was $30,000, so you were in the 15% federal tax bracket. If your bank forgives $70,000 worth of mortgage debt, your "income" suddenly jumps to $100,000, pushing you up into the 28% tax bracket, which for most taxpayers is effectively the 32-35% bracket inclusive of federal and state income taxes. Your average tax rate would be 30% or more, taking into account the Social Security taxes on your labor income. So taxes would consume every last penny of your gross job income.
(2) But wait. Your forgiving bank is hit just as hard. According to The Boston Globe (8/24/07), "Foreclosing on a house and selling it in an auction costs $50,000 on average, in New England, and that amount is on top of the funds the lender needs to pay off the loan itself."
Think about these costs. While you are paying extra taxes on the forgiven loan, the bank must pay all the fees required to dispose of the house on top of taking a loss on its value. These costs combined could amount to a significant portion of the value of the sale! Under such circumstances, can anyone say with a straight face that you owned an "investment?" Even a desired home costs money, but an unwanted home is nothing less than a giant albatross of decay and expense.
~ Robert Prechter, The Elliott Wave Theorist, August 26, 2007