Rethinking the Cost of Everything

To be free to live a life that you want, you have to rethink what everything actually costs. Why? Because we live in a world with finite resources. While it would be incredible to be able to pay for anything we wanted, life is about making trade-offs. The more specifically you can define what happiness means to you (see my previous post for a deeper exploration on how to define what happiness means to you), the more precise you can be about what something costs, and the more likely you are going to make decisions that give you a more meaningful and intentional life.

Deriving the “true cost” of something can help you cut out the unnecessary garbage in your life until you are left with the things that bring joy into your life. It is like having Marie Kondo walk through your life and cut out all of the excess. But before you cut anything out, you first have to figure out the formula for the “true cost” of something. Everything you buy today should be viewed through the lens of:

1. What value/cost does that item bring you today?

2. What value/cost does that item bring in the future?

3. What are the associated costs or benefits with buying this item?

The inputs are all the same, but how you weigh those inputs are going to be different depending on who you are and what you value. If you spend 50 dollars on a haircut, that is 50 dollars that can’t be spend on lunch (duh, because you already spent it). The more expensive something is, the greater the opportunity cost is. This is just a fancy way of saying the more you have to pay for something, the more likely it means that you are making an implicit (or hopefully explicit) tradeoff with something in the future.

“[So and so] is crazy, I can’t believe they spent that much on [Item X]”. I know you have caught yourself judging one of your friend’s purchases in the last year by saying something like this (don’t lie to me!). The truth is that nobody is crazy with how they spend money. Everyone just values things differently. Person A might happily spend $2,000 on a bag, but might never spend more than $200 on a nice restaurant. Person B might happily spend a few thousand dollars on a nice restaurant, but could never fathom spending so much on a bag. Neither person is right or wrong (or crazy), they just value different things.

How much does a house really cost?

My favorite example of this rethinking process is determining the actual cost of a house. Depending on how you define what is important to you, a house can be more or less “expensive” than what is reflected in the monetary value of a house. Using the formula mentioned above, let’s take a look at the true cost of a house.

What value/cost does a house bring you today?

1. Value

   • Consumption - You get to live in the house!

2. Cost

   • Whatever downpayment you have to put down to secure the house. This is generally anywhere from 15-20% of the price of the house.

What value/cost does a house bring you in the future?

1. Value

   • Consumption - You are still living in the house!

   • Appreciation - A potential rise in value of the house (i.e., maybe the house is worth more than you paid for it).

   • Cost Control - You take an unknown variable (housing) and make it a known variable when you buy a house. The monthly rate that you lock in is what you will be paying for the better part of the next 30 years. This is particularly valuable in an environment with rising housing prices.

2. Cost

   • Mortgage Payment - Your ongoing mortgage payments.

   • Depreciation - Your house might be worth less than what you paid for it, which means you are “underwater” on your purchase.

   • High switching cost - Buying and selling a house is not exactly a very “liquid” transaction. It takes months to identify a buyer or a seller, to negotiate a price, do an appraisal, and close on the sale. That means that once you have bought the house, you had better like everything about it.

   • Low flexibility - Once you have bought a house and you have a mortgage payment, your ability to be flexible with life’s curveballs becomes more difficult.

     • If you want to switch jobs or careers, you have to make sure that the the change comes with an equivalent salary so that you can continue to make your mortgage payments. That might reduce the number of options available to you.

     • If you want to live in another city for a few months or travel more often, it might be more difficult to do if you already have a mortgage payment you have to take care of.

     • The money that is used as a downpayment for a home is money that cannot be used to growth your wealth in the stock market or somewhere else. 

What are the associated costs or benefits with a house other than the obvious?

1. Benefits

   • Intangible - You feel at home and settled in a place that is yours. You have locked in a monthly rate that you will pay for the next 30 years, which allows you to plan your life for the long term. You have fulfilled one of the most basic human desires: to settle down in a place of your own design. Most importantly, you get to remake your house in your own image (i.e., decorate it in a way that fits your lifestyle).

   • Tangible - Depending on whether you have a family or not, you get access to school systems. You get the security in knowing that no matter what housing princes are or rent prices are, that you have a place to live at a monthly rate that is locked in for the foreseeable future.

   • Taxes - There is generally a tax break associated with owning a home, usually by way of being able to deduct your mortgage interest expense. 

2. Costs

   • Maintenance - If you ever speak to a homeowner, they will tell you that the hidden fees associated with owning a home can vary from an annoyance (roof is leaking and needs to be fixed) to absurd (there is something structurally wrong with the house that needs to be redone). The cost to maintain your house is not necessarily something that everyone factors in when purchasing a home.

   • Convenience - When you own a home, you are responsible for everything. Unlike having a landlord or a super, if something goes wrong, you have to fix it.

   • Taxes - Depending on what state you live in, property taxes can make a huge dent in your savings that you might not have accounted for.

To make this a bit more personal, here is how my wife and I weighed the true cost of buying a house a few years ago.

What value/cost does a house bring you today?

1. Value

   • At the time, we had been living in Times Square for about 5 years and both of us wanted to find a bigger space. We thought that buying a house would likely result in us living in a more spacious place.

   • My wife is what you would call a “nester”. She wanted to find a place where she could make it her own. We both believed that buying a house would go a long way towards making us feel like we could actually settle down in one place for a bit.

2. Cost

   • The downpayment for a home was something that we had been saving for, and it was the most obvious immediate cost of buying a house. This downpayment would need to be taken out of the stock market and instead put towards the purchase of a new home.

   • We weren’t entirely sure we were ready to move out of the city yet. Getting a bigger place would have likely led us to a more residential area of New York or a new city altogether.

What value/cost does a house bring you in the future?

1. Value

   • The idea of locking in a very low interest rate for a house that we both loved was tantalizing.

2. Cost

   • While there was certainly value in locking in a low interest rate for a house that we loved, the flip-side of that equation was that a mortgage would be an ongoing financial obligation that we would have to meet every month. That meant we would need to be comfortable that our income would be sufficient to pay for the mortgage payment each month.

   • We would have much less flexibility. If we wanted to quit our jobs and travel for a few years, having a house would make that a lot more challenging. As I have already told you in my first newsletter, the thing that mattered most to us at that time was having the flexibility to travel as much as possible for the next few years. We worried that buying a house would mean (i) not having the downpayment at our disposal to fund a few years of travel and (ii) having to pay a mortgage each month, which would further deplete our finite resources.

What are the associated costs or benefits of buying a house?

1. Benefits

   • Between the potential tax breaks, the access to schools, and the sense of security that came with having your own place, the benefits were obvious. We would accelerate our path towards more stability (both financial and emotional), and we could start building our life together in an intentional way.

2. Costs

   • We would have to delay (maybe indefinitely) any plans we had to go on our little adventure. That meant staying at our current jobs, finding new jobs, but in each case it meant continuing to work as an employee somewhere.

Final Tally - When we put it all together, we just couldn’t sacrifice the opportunity to go on the adventure that we had been dreaming about. That one factor weighted the most in our calculation. Here we are, two years later: not exactly homeless, but definitely on a different path.

In contrast to the decision we made, I know a few friends who made the exact opposite decision when it came to buying a house precisely because they had already had their own adventure. They had traveled the world, done something different with their careers and were ready to settle down. They had scratched the proverbial itch and were ready for something else. The space, stability and security weighed more than another couple of additional years of adventure. Did we make the wrong decision? Did they make the wrong decision? I’m going to sound like a broken record after a while, but there is no right or wrong decision in the abstract: there is only the right decision for you.

Not every cost and benefit that I have listed above will be weighted equally for each person. The inputs are generally the same but how you weigh each input will vary depending on what is important to you. The goal here is to think about the true cost of doing something like purchasing a home and then deciding what factors weigh more than others. Managing your personal finances starts with the “personal.” Figure out what matters to you and make decisions accordingly.