Why Price Appreciation Estimates Can Be Dangerous for Home Buyers

Many or all of the products here are from our partners that compensate us. It’s how we make money. But our editorial integrity ensures our experts’ opinions aren’t influenced by compensation. Terms may apply to offers listed on this page.

Things aren't always as they appear. Here's why you should never make a decision based solely on home price estimates.

Home sellers had a great year in 2020: Median home prices in the U.S. shot up by 12.8%. What's even more startling is how much home values have increased since 2012, when the housing market began to emerge from the Great Recession -- a whopping 72.3%

Statistics like these are interesting, and even tempting, but they can also be dangerous. Before contacting a mortgage lender about a loan, check out these five ways -- depending on appreciation -- estimates can be dangerous.

Danger #1: Temptation to borrow more than you can afford

After years of reporting in the San Francisco Bay Area, I remain shocked by home prices in that gorgeous region.

For example, as of April 2021, the median sales price for a home in the Bay Area was more than $1.3 million. That's the "median" price -- the average amount everyday people are expected to pay for a home.

Even if you know now is not a good time to buy a home in a market with sky-high prices, continually hearing the message that home prices are on the rise can lull you into false assumptions. For example, if you make an offer for $25,000 over the asking price because you think that escalating values will soon make up for the additional funds you paid, you may be in for a surprise.

Nothing lasts forever, including rapidly appreciating home prices. A big reason home prices went up so quickly in 2020 was due to a shortage of available homes for sale. But what happens to home values when COVID-19 is in the rearview mirror and more people put their houses on the market, or when building supplies are back in stock and builders can pick up the pace again?

Danger #2: Believing home equity is a sure bet

Let's say your child is getting married and you have long promised to pay for the wedding. It's going to be big, and you're going to have to borrow $50,000. You talk yourself into a home equity loan for two reasons:

  1. The interest rate is low.
  2. You're convinced that your home will continue to appreciate, replenishing the equity you have borrowed.

It's important to ask yourself what you'll do if appreciation suddenly slows to a crawl. Will you still feel comfortable with $50,000 less in available equity? If you run into an emergency or sell your home in the next few years, will you wish that you still had the equity available?

Danger #3: Believing equity will fund retirement or healthcare

We humans are an optimistic bunch, and when given a choice, most of us would rather see our cups as half-full. If you're living in a home near the top of your budget, you may have assumed that it was impossible to overpay in such a hot market. If that's the case, you may not have the money you need to fund your retirement or plan for healthcare costs.

Could you borrow from your home one day to cover expenses? Yes. But without a crystal ball to predict what will happen in the future, you can't bank on a specific amount of money being available to you when you need it.

Danger #4: Makes a case for a ridiculous argument

Years later, I'm still amazed by the Bay Area mortgage lender who told me that he advised families to cash out their retirement plans to get into a house. Here's why that's so dangerous:

The median value of a home in the U.S. has increased at an annualized rate of 5.5% since 1940, according to Millionacres.

When you consider that homes have roughly doubled in size since 1940 and adjust for the new size, you find that the annualized increase per square foot drops to 4.6%. Once you account for inflation, the average home's value has gone up by only 1.5% per year.

Investments in stocks (like those used in most retirement plans) have historically generated around 7% per year after inflation. The idea of giving up on investing to get into a home makes zero sense when viewed from a historical perspective.

Danger #5: Impossible to predict the future

None of us knows what's in store for the housing market or investments. We can only base our decisions on what we've seen and experienced so far.

The continual drumbeat of "home prices are going up!" is dangerous when it causes a home buyer to make a decision they would not otherwise make. Before purchasing a home, a home buyer should be able to say yes to the following questions:

  1. After figuring out how much house I can afford, can I pay all my monthly obligations without stress?
  2. Do I have a plan in place to keep up with the mortgage payments even if I lose my job or become ill?
  3. Am I able to purchase a home and continue to contribute to investments, like a Roth IRA?

When a home buyer is caught up in a market as heated as this one (and yes, it's happened before), it's easy to throw caution to the wind. And, perhaps, that is the most significant potential danger. Home prices today are on an upward trajectory, but that won't always be the case. It's in a home buyer's best interest to stay cool, no matter how hot the market may currently be.

Our Research Expert

Related Articles

View All Articles Learn More Link Arrow