Ilyce Glink: The State of the U.S. Residential Real Estate Market

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Our guest on the podcast today is real estate expert and author Ilyce Glink. Ilyce writes a nationally syndicated column on real estate matters, and she's written more than a dozen books on real estate and home buying, including 100 Questions Every First-Time Homebuyer Should Ask, which is now in its fourth edition. She's also a regular contributor to WGN Radio. Her latest project, Best Money Moves, is a mobile-first employee benefit designed to help employees with financial wellness and reduce financial stress. Ilyce received her bachelor's degree in English literature from the University of Illinois at Urbana-Champaign.

Background

100 Questions Every First-Time Home Buyer Should Ask, Fourth Edition: With Answers From Top Brokers From Around the Country, by Ilyce Glink

Newsletter: Love, Money + Real Estate: Exploring Truths, Lies and Life's Financial Milestones

Housing Market and Prospective Homebuyers

"What Today's Market Means for First-Time Home Buyers," by Ilyce Glink and Samuel J. Tamkin, washingtonpost.com, May 25, 2022.

"Love, Money + Real Estate #014: Is a Recession Looming?" by Ilyce Glink, glink.substack.com, May 3, 2022.

"Real Estate Matters: Industry Trends as a New Year Arrives," by Ilyce Glink and Samuel J. Tamkin, heraldtribune.com, Jan. 16, 2022.

"Real Estate Matters: Homeowner Weighs Renting vs. Buying for Next Stage in Life," by Ilyce Glink and Samuel J. Tamkin, heraldtribune.com, Aug. 8, 2021.

"Retiree Considers Selling Townhouse, Buying Larger Single-Level Home," by Ilyce Glink and Samuel J. Tamkin, washingtonpost.com, May 30, 2022.

"Cullen Roche: Macro Is About Understanding the World for What It Is," The Long View podcast, morningstar.com, Jan. 11, 2022.

"Real Estate Trends for 2022," by Ilyce Glink, thinkglink.com, Dec. 14, 2021.

Real Estate as an Investment

"Real Estate Matters: We Stand by Advice That LLCs Aren't for All Property Investors," by Ilyce Glink and Samuel J. Tamkin, heraldtribune.com, Jan. 23, 2022.

Housing Shortage

"Underbuilding Has Led to 'Acute Shortage' of Housing and 'Affordability Crisis,' Study Says," by Ilyce Glink and Samuel J. Tamkin, washingtonpost.com, July 19, 2021.

Older Adults, Taxes, and Retirement

"Calculating Capital Gains," by Ilyce Glink, thinkglink.com, May 9, 2022.

"Should You Prepay Your Mortgage?" by Ilyce Glink, hermoney.com, July 2, 2019.

"The Benefits of Paying Down a Mortgage Before Retirement," Interview with Christine Benz and Ilyce Glink, morningstar.com, Sept. 4, 2018.

"Reverse Mortgages: Readers Share Their Experiences," by Ilyce Glink and Samuel J. Tamkin, washingtonpost.com, June 2, 2021.

"Reverse Mortgage Not Working Out? Here Are Some Options," by Ilyce Glink and Samuel J. Tamkin, washingtonpost.com, Dec. 1, 2021.

Transcript

Christine Benz: Hi, and welcome to The Long View. I'm Christine Benz, director of personal finance and retirement planning for Morningstar.

Jeff Ptak: And I'm Jeff Ptak, chief ratings officer for Morningstar Research Services.

Benz: Our guest on the podcast today is real estate expert and author, Ilyce Glink. Ilyce writes a nationally syndicated column on real estate matters, and she has written more than a dozen books on real estate and homebuying, including 100 Questions Every First-Time Home Buyer Should Ask, which is now in its fourth edition. She is also a regular contributor to WGN Radio. Her latest project, Best Money Moves, is a mobile-first employee benefit designed to help employees with financial wellness and reduce financial stress. Ilyce received her bachelor's degree in English literature from the University of Illinois at Urbana, Champaign.

Ilyce, welcome to The Long View.

Ilyce Glink: It's nice to be here, Christine. Thanks for having me.

Benz: Well, it's great to have you here. We want to do a deep dive on real estate, one of your areas of specialty. We wanted to start by discussing the current environment for residential real estate. Can you talk about some of the key factors that have underpinned this current boom that we're in the midst of?

Glink: After nearly three decades of covering real estate, it's kind of surprising that we're actually in a place where I think we've never been before. So, interest rates are as high as they've been in maybe 15 years. They're now up over, as of this week, 6% for a 30-year fixed-rate loan. We've got adjustable-rate mortgages that are starting to become very popular again. Those are now adjusting every six months instead of every year. I think lenders are trying to keep up. Meanwhile, housing prices have been skyrocketing since about, I don't know, 2017-18 they were starting to really jump in markets like Boise, down in Dallas. Obviously, San Francisco and New York were always big and popular, but Boston and the whole Boston area really growing. And then, of course, we had a pandemic, and the pandemic changed everything. All of a sudden, people said, "I don't want to live in a condo. I don't want to live in a city. I want to head for the hills." And literally, that's what they did. They headed for the hills.

So, we are seeing incredible kinds of price leaps. And between that and mortgage interest rates, just even in the last five months, it is now something like 37% more expensive to buy a home and pay for that, not just obviously by the price, but actually the mortgage to cover it, 37% up just since January of this year, according to the Mortgage Bankers Association.

Ptak: Maybe to stick with that point, to what extent do rising interest rates have a natural cooling effect on home prices, and have we already started to see rising interest rates begin to cool things down? It seems like we have, right?

Glink: I think, we've hit a wall, frankly, in a number of markets. It's not that it's completely stopped. If you're a high-earning customer and buyer, you want to buy a house, and you're going to spend a $1 million, $2 million, going up to 5.5% or 6% probably isn't going to kill you. The problem is, for anybody who is on the lower-wage scale or who doesn't have perfect credit—when we quote these interest rates of 6% for a 30-year fixed-rate loan, we're talking about people who have 760, 800, 850 credit scores—a perfect credit score—but the average American only has a 700, and that means that if you've got a 700 credit score, your actual interest rate can be a third to a half point higher than what you're hearing quoted for everybody else. So, I would say to you that mortgage interest rates rising have a direct cooling effect. It's already happened. We're now seeing housing prices start to come down. Asking prices are coming down. The number of people who are in bidding wars is coming down. It's really having a direct effect.

Benz: I wanted to ask about the mid-2000s period relative to this one. This period has been compared with that one with respect to residential real estate. Can you talk about what are the similarities and differences? It seems like maybe the dramatically higher interest rates is potentially a difference. But let's just talk about what is the same and what's different.

Glink: So, mortgage interest rates in the early 2000s were low, lower than they are today, or maybe they're around where they are today. The big difference is the kind of verification lenders were doing on the creditworthiness of borrowers. So, that was the era of almost anything goes in lending. We had these option arms that were out there—opt arms as we called them—where you could decide how much you wanted to put down. You could decide how much you wanted to pay. And what nobody knew is that all the extra that you were being charged was getting tacked onto the loan. So, we had negative amortization or NegAm loans. We also had people doing stated interest loans like, "Christine, I can afford a $50 million home. Don't check, just charge me." And that was ridiculous, frankly, but lenders were doing it and people were paying those points. And so, what ended up happening was you thought that if you were an end investor and you were buying these tranches of loans, you thought you were buying high-quality mortgage-backed securities except that the mortgages really weren't that secure and the people underlying those mortgages, the actual buyers and homeowners, didn't have what it takes to really carry those mortgages. And so, when they started losing their jobs, the whole house of cards collapsed on itself.

So, I think that's the biggest difference than where we are today. We were artificially pumping up prices based on people being able to just say what they wanted in the mortgage market that wasn't checking. Because of the rules put in place, because of the last bubble, what we're seeing now is we've got a very, very solid group of buyers and homeowners in terms of their creditworthiness. We also have plenty of jobs. So, if you lose your job, you go find a new job right now, and that's another difference from back then.

Ptak: Do those factors make you feel more confident that any duress that we might see in the housing market given that some of the aforementioned factors, rising rates and the like, it won't radiate outward the way we saw the housing market spark a panic during the global financial crisis that clearly impacted the financial sector and other segments of the economy?

Glink: I don't think this is going to be the match that lights the whole thing on fire, which is what happened back in 2009—well, started in 2002 or 2003 and then it kept going and growing and then by 2007 and 2008, it just started to collapse or light on fire, whatever metaphor you want to use.

Jeff, when I look at where we are today versus where we were, one thing is the same: Your credit score really doesn't tell the whole picture of creditworthiness. It's an imperfect tool. It was imperfect 15 years ago. It's imperfect today Why? Because it only tells a lender or a creditor about how you've done in the past. It doesn't show them how much you're really earning. That's supposed to be the web-verification process. It doesn't show you what else they're spending money on. It doesn't show you what they have in savings per se. It does to a degree. But its lending standards are much, much better than they were, and we have a much better quality of borrower. But it's still not a perfect system.

That said, I don't know that I see us having a complete disintegration of the mortgage market the way that we did either, just because I think home prices—and I'm not alone in this—I think home prices have gone bananas in some marketplaces. But what you have to do and what was true 15 years ago, and is true today, is you have to look at who is buying in a neighborhood and what kind of income they generate. Back 15 years ago, what you were seeing is markets that had teachers and police people and fire people, fire-protection people, and ambulance drivers, or coffee baristas, that kind of income set, you saw home prices skyrocketing way beyond their reach. So, how were those people affording those properties? Today, there are markets where you're seeing the same thing happen, except that what's happening now is—and take Boise, Idaho, as a great example—people who work in Boise as the waiters and the police people and the fire-protection people and the ambulance drivers, they can't afford to live there. And so, they're moving further and further away—much the way this happened in San Francisco or Los Angeles, Boston, New York—they're moving further and further out and into those marketplaces are moving people who have a whole lot of money and a whole lot of resources. And so, those people probably aren't going to lose their jobs. We now have remote work everywhere. Lots of the higher-paying jobs can live anywhere, work anywhere. So, I don't see housing prices coming down the same way. They will cool down a bit as interest rates go up simply because there are fewer buyers. But I don't see it slashing by 30%, 50%.

Benz: One thing I've wondered is whether home purchasers sometimes focus disproportionately on the level of interest rates when deciding when to buy. It almost makes me think that they should be focusing more on home prices, because that's the irrevocable, unchangeable part of the equation. Can you talk about that, how investors should focus their interest when deciding the timing of home buying?

Glink: I think you should buy a home when you need to move into a home. People buy homes not because of interest rates. People buy homes because their kids are starting in a new school district, they get a different job, they decide they're going to downsize, they want to move across the country, then have a different quality of life. Interest rates in my experience are just not the driving factor. If you're an investor, yes, interest rates can make a big difference. But the truth of the matter is, interest rates go up, they go down. The last 20 some years, really since 1993, they've been basically under 6% except for a few odd months here or there. That's a long time; 1993 is a long time to today where you've had extraordinarily low interest rates. And even in the last 15 years, you've had incredibly low interest rates and just with the pandemic. So, people are getting used to the idea that there's higher interest rates. And what they're finding is that, in many, many cases, home prices are still affordable, and so, they're switching out into an adjustable rate mortgage, thinking to themselves, "I don't need a fixed for 30 years here, I'm probably not going to live there that long." Or "Interest rates will come back down eventually; I can refinance then." And so, they're buying what they can buy because their lifestyle demands it, and by lifestyle, I mean, whatever they're doing in their life that they want to make a change, their kids need a different school district, or they're moving to a different location.

Interest rates to me aren’t a direct thing except for people who are right on the edge financially. So, if you're on the edge financially—and this applies mostly to younger millennials and Gen Z—if you're on the edge financially, you have a lot of other debt, every change in the interest rate, every point that goes up or half a point is going to make a difference to your buying, how much you can afford to spend. So, there is an urgency there. But yet, millennials and Gen Z's are the ones who are at a place in their lives where things change quickly. I'll give you my own son as an example. A year ago, he was happily ensconced in his first job in Chicago. He was never going to leave here and out of the blue got an offer he couldn't say no to. I know that sounds a little, like, wait, an offer he couldn't refuse, but it truly was. So, he got this offer. He moved to New York, and he doesn't live in the condo that he bought with his 2.68% interest rate. Instead, he is renting in New York. So, you just don't know necessarily where you're going to be when you're younger and yet you want to take advantage of interest rates as you can. I think that's where interest rates hit the market the most.

Ptak: One issue for new homebuyers is that rents have shot up right along with home prices. How should people approach the decision about whether to rent versus buying a home? What sort of calculation should they run through when comparing the two? And also, are there softer factors they should consider to determine whether they're cut out for homeownership?

Glink: That's a pretty tough two-part question, Jeff. Let's take the first part: renting or buying. If you look at the net worth of a typical American, the vast majority when they're in their 60s, comes from their home equity. If you never buy a home, then what you have to do is live cheap and put all the money that you would save by not buying a home supposedly into an investment, and that investment is going to sit there all those years. And then, you might, just might, catch up. But your quality of life is a lot worse. So, it's imperfect. I'm sure there's some economists out there who's going to say, "No, Ilyce, you're completely inaccurate about that." But if you think about it, there was a reason that people like me would push people to go and buy homes. Every single payment has a piece of enforced savings you can lock in at a low interest rate, and then, hopefully, the home appreciates in value, which it has done nicely everywhere in the country except in Chicago basically, where I live, where home prices still haven't, in many cases, recovered from the recession 12 years ago.

But in any case, you pay off your mortgage and now you've got a big chunk of equity, and that's really valuable for most people, and it's something that if you rent, I don't think you're going to end up with that same chunk of a net worth. Why? Because you're going to move to a different place, it's going to get more expensive, landlord is going to raise the rent, you might want to live in a bigger place, you're going to want nicer amenities. If you fix up the place you live in, all of that goes back to the landlord. It's not like you are going to take your new paint, new carpet with you. And so, I think if you compare it minute to minute, maybe it's cheaper to rent right now than buy, but it won't be for long because rents are rising at an astronomical rate as well. Why? Because you've got investors who are buying more expensive property, and so, they're going to want to make money on that investment. They're going to pass that along to the renter.

As I've said in all of my books, for my First-Time Buyer books on down, when you're renting, you're just paying somebody else's mortgage. So, any costs that you would pay for yourself as an owner, you're going to be paying that, plus some modicum of profit to the landlord. And if you think about it that way, homeownership over the long run makes a lot of sense. Where it doesn't make sense, or you should rent, is when you're like my son and you keep thinking you're going to get back to Chicago and your condo, and so, you're not going to go buy in an outrageously expensive area like New York when you're not sure you're going to be there. And so, if you are unsure of where you want to be or unsure of your job situation, if you don't know you're going to be on your own, or maybe you're going to partner up, or maybe you're going to have kids and you want to plan for that in the short term, renting is probably a smarter move.

Benz: That raises a question of what sort of time horizon should someone have in mind if they want to have a positive experience with homeownership? On a previous podcast, one of our guests, Cullen Roche, made the point that prospective homebuyers should think of a home purchase as like a 10- or 20-year proposition. Do you have any thoughts on that, like, how long should you plan to stay in that home to have it end up being a net positive for you financially?

Glink: I don't know that anybody knows that for certain, unless you've got a crystal ball. Mine is kind of cracked, Christine. So, I don't think I can for sure tell you. But I would say 10 to 20 years is a long period of time. If you think about the stock market, there's never been a losing 20-year period. So, the question in the stock market, which you I'm sure deal with all the time is, well, what about 10 years, what about 5 years? If you talk to real estate agents, they'll tell you that if a home will typically appreciate at just over the rate of inflation—I know inflation is at 8% or 9% right now, so it would have to appreciate at 10% a year. We've seen incredible appreciation in home prices, averaging 13% to 16% a year or more. Some home values have gone up 30% in the last few years. So, all that is going to have to come back to some sort of mean. But I would say to you that in a typical normal world, five to seven years is probably what you should plan to stay in a home if you want to break even or do a little bit better, because there are some costs of sale and other kinds of costs that are going to go into it. On the other hand, if you make some money and you get lucky about what you buy and where you buy it, and you're smart about it, you get to keep that profit tax-free, and that's a whole other conversation that we can have about it, whether the tax laws should favor homeowners. At the moment, they do, so you might as well take advantage of that.

Ptak: I think we wanted to talk more about real estate as an investment. But before we did that, maybe some tactical questions, one of which is, securing a mortgage. Do you have any key pointers to offer about making down payments and securing mortgages, or are consumers better off shopping for mortgages on their own, or do you think it makes more sense to use some sort of mortgage broker, for example?

Glink: I think if you're a normal person with a W-2, you should be looking at a variety of different types of lenders. Some lenders don't want your business, not because they don't like you or the color of your skin or the color of your hair, or your religion or whatever. Not because of that. Some lenders just literally can't do another loan in a certain area of the country. Or they are overloaded in their own credit facility. So, you want to go to a variety of lenders. Credit union always has great programs. If you belong to one, you can join one. A small regional lender, an online lender, those are all good choices. A big bank. Get to see what those experiences are like—whether you can talk to somebody or not, whether you need to talk to somebody. And if you're pretty standard W-2, you and your partner, you've got cash, you're putting down 20%, which is pretty important these days, all of that is good. If you have low credit, if you've got very little cash to put down; maybe you're a 1099, or you're a contract worker, you have a bunch of different jobs that make up your regular income, or there's multiple people who are going to live in the house that are not married to you but are going to be featured on the mortgage, you're going to be looking at FHA perhaps, you're going to be looking into some special mortgage programs, you may want a lender that portfolios loans, meaning that they're not going to resell it right away in the secondary mortgage market to Fannie Mae and Freddie Mac. Then you may want to use a broker. Even for high-net-worth people who are thinking about interest-only mortgages, you're going to want to use a broker. If you are looking at certain programs where you're basically getting a mortgage against assets that you already hold in the institution, you can go and look at those institutions. A few of the big financial-services companies for high-net-worth people will offer these sorts of very specialty mortgages.

So, I think that there's a lot of different things. But for a typical person, who has a pretty good credit score or a great credit score, is a W-2, go look at four or five lenders, shop it around, try and understand who is offering you the right kind of combination of rates, points, program, and see what really fits your lifestyle.

Benz: We asked you to talk about the rent versus own decision. But I was wondering if you could tackle that through the lens of second homeownership. My guess is that we'll have some listeners who are contemplating buying a second home. Perhaps, they're getting close to retirement, or in their 50s. Can you talk about assessing that decision and what to bear in mind when you decide whether to purchase a home or just rent via Airbnb or something like that?

Glink: There's a couple of trends, Christine, that I think maybe your listeners are aware of, maybe not. But one of them is re-retirement. And this has been coming up over the last 20 years. The National Association of Realtors pointed it out 20 years ago—they said, baby boomers, they don't generally just retire at 65. They have a period of time now because of generational trends— and I can talk about that more in a moment—where they have some time between when they want to slow down and work and when they're going to start being active grandparents, typically. And by active grandparents, they want to come back and be close to their kids. So, they go and they're like, "Now I want to ski." So, they might retire to somewhere in Colorado, or maybe they buy a place, or they rent a place in Utah. And then, after five years their knees start to hurt, and this is all just experiential, and so, they're like, "No, now I want to try the beach." Then they find a place in Daytona, or on a coast somewhere. And then, they're like, "No, I think I really actually want something that's not Rocky Mountains, but not quite flat Florida. So, I'm going to go to Tennessee and I'm going to be there." And then, they're like, "Oh, look, we have grandchildren." And then they go back home.

The other model that we see a lot and the typical age of buying a second home—people are still working, but they want a place to escape to. So, you see it start to come up when people are aged 55 to 65, and then 45 to 55 is kind of the next area. And people will find a place that's within 150 miles or like a three- to five-hour driving distance from their primary residence and that becomes the weekend place. When you're raising kids today, they always have stuff to do on the weekends, and you want to watch them play every sport or game, and you want to cheer them on whatever they're doing. So, there's this gap between when they're babies and you could take them and they're portable, and then they grow up and you have to watch their weekends, and then it comes back around and you now get more freedom and flexibility as they go off to college, or they basically say I don't want you around anymore, Mom and Dad. And not that I'm saying this from personal experience or anything. But once they drive, Mom and Dad are not the most important people in their lives anymore. So, you start to see the patterns switch when it comes to second homes.

So, what do you need to think about? I would say, if you know where you want to be, you're going to buy that second home. If you don't really know where you want to be or you like skiing and you also like swimming and you also like hiking and mountains, you're going to try to rent maybe in a place to figure out where you'd want to make that investment. Or on the other side, if you live in a place that has really wonderful recreational activities, maybe within a couple of hours distance, not Chicago, where it's so flat, like forever and ever, but you might just buy something that's two-three hours away and that's going to become the place that you go to. We have friends who live around us in the North Shore of Chicago, and they bought a lake house, literally an older home right on Lake Michigan about two hours north, and they're there every weekend. So, it really depends, what's important to you, what you like to do. But be careful because there's always something that goes into owning one of these kinds of properties. You're going to pay more than you think. You're going to need more maintenance. And if you don't get there, what could happen to you happened to a friend of mine in New York where they had for decades this fabulous house in the Berkshires. They didn't get there for about six months. There was a leak and it literally destroyed one whole side of their house and they had to rebuild the house. So, just keep in mind it's a house; it needs care and love and attention, and you got to visit it from time to time.

Ptak: Wanted to go back to a topic that you alluded to earlier, which is home is an investment asset, and ask more of a philosophical question, which is, is it even healthy for people to think of their homes, and by homes, let's focus on primary residences, in this way? Or is it better to just think of your primary residence as the place where you live and try not to think of it as any sort of investment?

Glink: Well, good luck with that. I think we could tell people all day long not to think about their home as an investment, but it's the single biggest investment most people make and they can't help themselves, because we're training them to look at every piece of their budget as being an investment. And it's either an investment in your life or your life worth or your lifestyle, or it's an investment in your finances. So many people watch HDTV, and it's like, "OK, I'm going to fix it and flip it," or "I'm going to fix it and rent it, and I'm going to make that investment." We have literally trained all of America to look at this as an investment.

And should we? I think there's a mixed bag here. It's a big chunk of cash. Be smart about what you buy, but at the same time, be happy where you live. I don't think there's one right way to look at it for everybody. But I think you need to be aware that when you buy and sell a home, people are making a whole lot of money on that, and you need to be cognizant of the process so you can do the best for yourself. And that's what I encourage people to do. In all of my books, I try to break down the process, help them understand what they're looking at, what they're doing, what other people have their fingers in their pie, and help them understand how to control the process from the minute they decide they're going to buy or sell.

Benz: If I'm thinking about my home as an investment, how do I think about the size of that as a percentage of my household balance sheet or my household net worth? What's too much, do you think, in terms of residential real estate ownership?

Glink: There's a huge chunk of the American population that is spending more than 50% of their take-home pay on rent right now, and in some cases, homeownership. And that's really hard. That's going to be way more than you want it to be. When you buy a house, a lender is going to say, I don't want you to spend—if you're going to resell that mortgage—I don't want you to spend more than 26% on your mortgage, taxes, and insurance of your gross monthly payment and no more than 36% on your total debt. I think it's 28% and 36%, or 27% and 36%— somewhere around there—36% total debt. When you look at take-home pay, so after your taxes, after your deductions, anything else coming off of your paycheck, that 36% of total debt could really feel more like 50% of your take-home pay. What kind of a lifestyle are you going to have and what should you strive to do? Now, real estate agents will say to you, look, stretch now, things are expensive, you'll refinance down the line, and if you fix this payment, this house payment, and you live here for 10 years, your salary is going to go up, things are going to go up, it's going to feel easier, and you'll be happy you locked in at the right house at the right price.

And to a certain degree I agree with that. But also, things happen in life. Life gets more expensive. And if I could show your audience one of my very favorite charts, which I can't because this is audio, but I'll describe it. In my world, life is a perfect bell curve when it comes to money. So, in your 20s and 30s, you don't spend that much. You've got student loan debt, sure, but you're just starting out. You're starting out in a job, you're probably renting, you may or may not own a car. If you do own a car, it's probably not a brand-new $50,000 car, at least I hope not. But as you move into your later 20s and 30s and you start to partner up, you're in your mid-30s, you're thinking about a kid, you might buy your first house by then, maybe you've got a second car, you are taking vacations, friends are getting married, you're spending a lot on gifts. You move into that different frame. And now, you've got young kids and kids are very expensive—as I'm sure you've talked about with other guests—and then you're raising those kids now mid-30s to your mid-50s or later if you have more than one, and you've got, my goodness, the dog explosion in this country. Everybody has a dog or two. And dogs have needs and they have special food, and they get cancer, and they have to go to the vet. There's just a lot of expenses that come in those years.

And so you've locked in the price of your house, but now the house needs things. It needs gardening and maintenance, and it needs updating, a new carpet and paint and tuck-pointing, and maybe you've got to redo the exterior, and you've got stuff that isn't covered by insurance, if there's a flood. So, you've got more expenses as you age. And when you push yourself on buying your house, all of that can start to feel very tight. And that's where my financial stress-side of things comes in. Because my everyday job as CEO of Best Money Moves is looking at the financial stress that people have and what are the underlying causes of that financial stress and helping people break it down. And so, people think, oh, well, you bought too big a house. Well, when you bought it, maybe it was slightly a stretch. The problem is that real life happens to all of us, and when it does, things that were affordable suddenly become unaffordable. So, to go back to your original question, what should you be spending? Probably a little bit less than you can if that's even possible given today's interest rates and house prices.

Benz: That's helpful. So, Ilyce, if I'm thinking about my total net worth, and maybe I'm a more mature investor where I have liquid assets or I have mutual funds and ETFs and so forth, and my investment portfolio, and then I have properties, what's an appropriate guideline for thinking about how much to have staked in the property piece of my net worth?

Glink: I think, if your primary residence counts and that's 60% of your net worth, it's probably too much. As a higher-net-worth individual you'll probably have 25%, maybe even a little bit more in real estate, meaning your own personal residence, maybe a vacation home, and maybe you've started to invest in other properties as well. So, if I think about my own life as an example, I have a rental property, we've got our primary residence, and together we're about at that level—25% to 30%, actually, it's even lower than that. It's about 15% of our total net worth. And so, I think if you have $100 million and you want to buy a $20 million house, you can, because even though that $20 million house is going to require, generally speaking, more extensive taxes and maintenance and upkeep, it's still going to end up being a smaller percentage of the total, and I think most people probably wouldn't buy that kind of a house.

The real question is, what do you do when it's just investments? And I think that investing in real estate isn't so easy as saying, well, it's X percent because are you investing in retail, are you investing in commercial, are you investing in warehouses? I have a friend who is invested in four or six properties where people move their mobile homes, and so, it becomes like a mobile home park, and they actually have the underlying land and the lease and people bring their own trailers onto it and then they rent from them. So, are you doing that, or are you buying apartment buildings, and you're building a huge portfolio of rental units that way or in three flats? Each one of those is a different type of a real estate investment. You also could be having a real estate investment by investing in REITs—real estate investment trusts—and even there, it's not the same kind of real estate investment. You can be investing in mortgage-backed securities or hospitals or roads and bridges. There's just different kinds of real estate investments to make, and each one of those carries a different amount of risk, and all of them are different in my mind than the amount of investment you have by just building equity in your single-family house.

Ptak: You've long been an enthusiast about buying rental properties as investments. I think you often talk to investor groups about how to do this, and you've been a successful owner of rental properties yourself. What are the key positives, in your opinion, and what are some of the key risk factors that someone should keep in mind?

Glink: What do I like about it? Well, I like the income that it brings in. We've owned the property that we have now—we've had others—but we've had this property for, oh, my goodness, 23 years-ish. So, it's gone up in value. Not a lot, not as much as I would have loved, but it's almost all paid off. And we make good money on it every month. In retirement, that will be a really nice way to generate income. And there are a lot of people who are doing that now. They're buying property to generate income, and if you have enough of it, you want to make it your primary business, more power to you. There is a lot that goes into it. Do you have the temperament to be a landlord or not? Are you OK with people calling you in the middle of the night to fix toilets or not? Are you able to manage the books and all of the other things that go into it, keep it straight, it's what you like to do, you like to work with people, you like to find tenants. All of those things are pieces of it. And then remember, even once it's paid off and you've got $20,000, $30,000 of revenue coming in, let's say, a year, something might happen and you're going to have to spend a chunk of money.

For example, we just in our property had to replace the HVAC system, and it was $9,000. Well, $9,000 is a significant chunk of the revenue we're getting in every year, but we should be good now for the next 10 to 15 years. So, you got to think about that. Single-family homes have different needs, but you may get better price appreciation than a condo. So, when you're thinking about what it is you want to buy and how you want to leverage that, and are you going to buy a three flat, live in one, rent out the other two, or are you going to buy, let's say, a vacation home, and that's going to be the thing you rent out, like a friend of mine did very successfully. You just have to think through all the things that go into it and then be ready to tackle whatever problems exist. And you may buy a lemon, in which case, you're going to want to get rid of that thing as soon as possible.

Benz: Wanted to ask about the emergence of large institutional investors as buyers of rental properties—BlackRock, for example. What does that mean for smaller investors dabbling in this space on their own? It seems like it could make it harder for them if there's more competition for some of these properties.

Glink: That is a growing concern. I listened to a number of people talk about this at the Annual National Association of Real Estate Editors Conference back in December. Right now, the numbers are pretty low on a relative basis. There are tens of millions of homeowners in the country, and BlackRock and other companies, even if they're buying 20,000 homes at a time, it's a teeny tiny fraction. But every home they buy takes homes out of the marketplace. So, what happened 12 or 13 years ago is that there were thousands and thousands of these homes that homeowners basically went under, and they couldn't afford to make the payments and there was a massive foreclosure crisis. So, the banks took those homes back and then they had to unload them. They can't just hold on to them forever. And so, a lot of the people that had money even three, four, or five years later, were these big investment companies, and so, they started buying them.

And then, in many cases, they leased it back to the homeowners who originally had them. But that means that those homes are no longer available. It was expected that they might turn around and sell them. But what's happened is that there's been so much price appreciation and there's been such a good return on investment because they bought them so low that they don't want to sell them and pay capital gains. They're just going to collect the rents. And so, those homes are now off the market. And depending on where you live, that has contributed, to a certain extent, to the shortage of homes and one of the big underlying causes of the price appreciation. We simply are about 5 million to 6 million homes short in this country. So, it is a problem for investors—small investors, mom and pop investors—because you're up against institutional buyers who come in with cash. And if you don't have cash or make a cashlike offer, that can be a problem.

But there's other problems as well, because you're up against individual people who just want to buy a home to live in, and in many cases, this is driving up the competition. And I think that as interest rates are now higher, we're going to see maybe a little bit less competition for these homes from everybody. Everybody is going to sit back and wait and see what is going to happen with interest rates. But that's good. That's an opportunity for homebuyers to go in, buy these homes, and then as interest rates fall, as they inevitably will, to refinance down to something even more affordable.

Ptak: Do you think rising interest rates and cooling off the housing market, that that is going to be what it takes to basically solve the problem of there being a housing shortage? Or there are other things that you think need to happen for the housing shortage to become less acute?

Glink: No, you have to build homes. You have to build houses. It's not enough. I think people don't really understand how many homes fall out of use every year. So, if you have 100 homes, at any point in time, there are homes that just have to be torn down and new homes have to go up. They are just 110 years old, or they no longer meet the needs of the neighborhood, or they're in such a bad shape it literally gets torn down. So, we have to build replacement property as well as building new homes. And why is that? Because the number of people in this country every year goes up and up and up. We used to be at 275 million, and then we were at 300 million, and now, we're at 325 million, maybe closing in now on 340 million people. So, all those people have to have somewhere to live. And we're living longer, and so, more people are alive, and we need more places to house them.

Just simply raising interest rates doesn't solve that problem. What the Fed is trying to do is solve the problem of inflation. And I'm not really an inflation expert. So, I won't go there and really talk about that other than to say, the work that's being done with interest rates will slow the number of people looking to buy homes right now, but it still means that those people have to live somewhere, and they're going to need to live in a rental property, and there's only a limited number of rental properties to go around as well, and that's why rental property prices are going up.

Benz: You referenced the favorable tax treatment that homeowners receive. I want to delve into the exclusion on capital gains from home sales. Can you discuss how that works and also, what kind of documentation people should keep about the improvements that they've made?

Glink: Right now, the tax law says that if you live in your home as a primary residence for two of the last five years, you can keep up to $250,000 in profits tax-free or up to $0.5 million if you're married filing jointly. The two out of the last five years is important. If you move before that two years is up, then you might get a proportionate share of the profit. For example, if you get divorced and you have to move, or if you move to take a job that's more than 50 miles away, there's a lot of different rules.

How do you calculate what profit looks like? That's the second part of your question. And the way that in general this is calculated is the cost of purchase, plus the cost of sale, plus the cost of any capital improvements. So, if you add on a room, that's a capital improvement. If you replace the roof, it's a capital improvement. If you paint the whole butter yellow, that is not a capital improvement. So, cost of purchase, cost of sale, cost of capital improvements. Add that together, subtract it from the sales price. That is your net profit, and that is what the IRS is looking for.

And you asked about keeping paperwork. Good idea to always keep paperwork. So, we know that the cost of the capital improvement, the roof replacement, and this is how much it was, you should have a file with all of these costs. Keep it. Keep it even after you sell your house for seven years. And then, after that, you can shred it all.

Ptak: One decision that many homeowners wrestle with is whether to pay off a mortgage early versus invest in the market. This comes up especially with people who are in their 50s and 60s and closing in on retirement. How would you advise people to decide their best use of funds? It certainly seems like a very polarizing topic.

Glink: I have friends who have interest-only mortgages at 2%, who when they're done paying with them and they sell their house, they're hoping that the home price has gone up because they literally haven't paid down any of it. And that's fine for them. They're high-net-worth people, and they like to play that game. For everybody else basically, I personally would advise—and I have done this myself—to try and pre-pay these mortgages. Because if you're living in your house for 20 years, it would be nice at the end of it to have that all paid off, especially if you're about to go into retirement, because what that does is just free up cash flow. So, I'm nowhere near retirement age, I'm happy to say, but our house is paid off, and literally, now all we have to do is maintenance and taxes, and it's become very cheap to live here. By the same token, though, if I want to go anywhere else, I'm going to spend more, probably get less house than I have, and have more expenses in it. So, the reason, or the raison d'être, for me to sell has gone down. There's nothing compelling me to make that move right now. There would have to be some sort of a major lifestyle change to get me to leave my house.

But I think that for a lot of people the idea of making extra payments, they don't understand the value of it, and I get it. If your interest rate is 2.5%, maybe right now you shouldn't. Right now, don't put in that extra money because you'll do better in savings. But for the last 15 years, you wouldn't do better in savings or investments. You might have done better in investments, but maybe not. So, the nice thing about prepaying your mortgage is that's a guaranteed rate of return. And if you want to keep some of your money in cash, this is one way to—by building that equity while it's relatively illiquid, you could still get access to it if you needed to, at least some of it. But it's there, and you're building it; you're building that net worth, and you're working toward the goal of having that mortgage paid off. And I think that's a valuable thing for most people.

Benz: Sticking with the topic of older adults, housing wealth is the largest source of wealth for many retiree households. Have reverse mortgages gotten better, and should they be a bigger part of the retirement planning discussion, in your opinion?

Glink: I have really mixed feelings about reverse mortgages. I like them, but they're expensive. There are not very many done. Several of those lenders went out of business over the last few years. I think if there's 150,000 reverse mortgages done and you've got 20 million, 30 million, 40 million homeowners, it's not a really big number. It is a way for homeowners who have limited fixed income and have to cover large expenses in their house, there's ways to cover it. But frankly, I would rather see you move and sell your house and take your profits and go rent something more affordable. I think that's a much better use of your money. I know some people are really married to the idea they're going to stay in their properties. I guess a lot of people on the other side don't like the idea that this asset they've built is going to get eaten away, and they're going to not have anything to leave to their heirs. So, it's a very complicated decision. Also, I think a lot of people don't recognize that when they do a reverse mortgage and it eliminates their mortgage payment, for example, they still have their taxes they have to pay every year. And so, there are a number of homeowners who end up losing their houses to foreclosure even though they've had a reverse mortgage and then they're really left with nothing.

So, it's something that you could consider. I'd rather see you explore in retirement all of your other options first and then really think about whether you can just move somewhere else that's more affordable and more manageable without having to pay those upfront fees.

Benz: Well, Ilyce, this has been a super helpful and illuminating discussion. We so appreciate you taking time out of your schedule to be with us today.

Glink: I'm happy to do it. Thanks for having me, Christine and Jeff.

Ptak: Our pleasure. Thanks again.

Benz: Thank you for joining us on The Long View. If you could, please take a moment to subscribe to and rate the podcast on Apple, Spotify, or wherever you get your podcasts.

You can follow us on Twitter @Christine_Benz.

Ptak: And @Syouth1, which is, S-Y-O-U-T-H and the number 1.

Benz: George Castady is our engineer for the podcast and Kari Greczek produces the show notes each week.

Finally, we'd love to get your feedback. If you have a comment or a guest idea, please email us at TheLongView@Morningstar.com. Until next time, thanks for joining us.

(Disclaimer: This recording is for informational purposes only and should not be considered investment advice. Opinions expressed are as of the date of recording. Such opinions are subject to change. The views and opinions of guests on this program are not necessarily those of Morningstar, Inc. and its affiliates. Morningstar and its affiliates are not affiliated with this guest or his or her business affiliates unless otherwise stated. Morningstar does not guarantee the accuracy, or the completeness of the data presented herein. Jeff Ptak is an employee of Morningstar Research Services LLC. Morningstar Research Services is a subsidiary of Morningstar, Inc. and is registered with and governed by the U.S. Securities and Exchange Commission. Morningstar Research Services shall not be responsible for any trading decisions, damages or other losses resulting from or related to the information, data analysis, or opinions, or their use. Past performance is not a guarantee of future results. All investments are subject to investment risk, including possible loss of principal. Individuals should seriously consider if an investment is suitable for them by referencing their own financial position, investment objectives and risk profile before making any investment decision.)