Is Success Actually Failure?
4 November 2019
Is Success Actually Failure?
What is success? Here is a common story of perceived success, with a reality check. This blog was originally written in March 2018 but is still extremely relevant.
Tim and Jess are both 28, and buy a house for $350,000 in 2003, with a $250,000 loan. Times are tough, so they only pay interest only, and cash flow is tight to start with. Tim and Jess slowly earn more, but they also spend more. They split the loan into $200,000 fixed interest only and $50,000 revolving credit that they can pay off quickly with their extra earnings.
Times get tough again, and the bank allows Tim and Jess a little mortgage holiday for six months, to help them get back on track.
Over time, the property slowly goes up in value. The property market booms and suddenly it is worth $600,000 in 2007. Tim and Jess find that their revolving credit is at $49,500 and hasn’t really moved over the four years. They now owe $260,000 on their house (as the mortgage holiday got added on). But their cars are getting older, the house needs some repairs, they would love a big TV and they haven’t had a holiday in years! Suddenly, with the extra equity, the bank will allow Tim and Jess to borrow $50,000 more. The mortgage is only $310,000 or 52% LVR.
Tim and Jess have it great - a holiday, new car, the big TV, but still struggle with cash flow over the years, so manage on interest only lending. But now they want a bigger and better house. In 2012, the Auckland house market has moved up a little more, so their house is now worth $750,000 (41% LVR!). They borrow $30,000 to make the house look better and do the repairs they should have done back in 2007. They buy a new house for $1,000,000. After commission, they get $720,000 sale of their old house, and after paying off the mortgage of $340,000, have $380,000 cash left. So, over time, their $100,000 deposit has turned into $380,000. Awesome?
The new house really needs some new furniture, so Tim and Jess borrow an extra $50,000 for some new furniture and a spa. They have a $1,000,000 house in Auckland now with a $670,000 (67% LVR). They are earning more money than ever.
The cycle starts again, they are earning more but also spending more. They need a new car, some house repairs, a swimming pool and they haven’t had a holiday in ages. Plus, they have some HP’s, a personal loan and their credit cards are maxed out. The property market has jumped further and the house is now worth $1,400,000 in 2014. Wow! With only a $670,000 mortgage or a 48% LVR. The bank allows Tim and Jess to borrow another $150,000, leaving them with a $820,000 mortgage or 59% LVR.
Tim and Jess are now (2014) both 39 and have $580,000 equity in their home. Would you say Tim and Jess are successful?
In my opinion – NO
To pay off their original loan over 30 years would be monthly payments of $1,342. So paid off in 2033.
Now, to pay off their new loan over say 20 years, the monthly payments would be $5,412 or $65,000 per year, just in the loan payments! And this would have a loan repaid in 2034.
My long term goals for all property investors are:
- Have a debt free personal house
- Plus passive income.
Tim and Jess are going to struggle to pay off their personal house. They could try to downsize slightly, but if they wish to stay in Auckland, it is still likely to cost them over $1 million to buy another house, still leaving them with around a $500,000 loan. Tim and Jess are a long way off a debt free personal house, and have no passive income. Currently, at retirement, they are looking like they would still be in debt and relying on the Government pension. Or forced to move to Taumarunui!
What does this highlight?
- A lot of so-called successful people are not good with money! I would say that over 95% of people are not good with money!
- An increased personal house value doesn't make you successful. Having a fancy car, pool, etc., also doesn't make you successful.
- Make principal repayments on your personal house. Try to pay off your personal house as quick as possible. Talk to firms like NZ Home Loans who focus on trying to pay off your personal house loan quicker.
- Don't borrow extra for new cars, furniture, etc. - You should be saving for these items and paying for them from surpluses of your income over expenses, not from capital gains on your house.
- Establish a plan to gain passive income long term.
I hope this has given you a different perspective to think about.