Sunday, November 14, 2004

Federal Reserve doesn't say so, but big mortgages might become troublesome

BY JEFF BROWN

KNIGHT RIDDER NEWSPAPERS, Detroit Free Press

It was a soothing message: The United States is "not in the midst of a home-price bubble," Federal Reserve Chairman Alan Greenspan said recently, arguing that soaring home prices are not at all like the soaring Internet stocks that collapsed four years ago.

Hopefully, Greenspan's right. But even so, you should be leery of grabbing the biggest mortgage you can get. There's plenty of risk in today's high-priced housing market.

Big gains in home prices have led Americans to take out ever-larger mortgages and the total amount of mortgage debt rose about 12 percent each of the past two years.

Ten years ago, the typical household carried overall debts equal to about 80 percent of its annual disposable income. By the end of last year, that figure was 108 percent, thanks mainly to bigger mortgages.

Some economists warn that high debt levels could come back to haunt homeowners if housing prices fall, because then some homes might not be worth as much as their owners owe.

Of course, if the nation were in a housing bubble, Greenspan would bear some responsibility. By pushing interest rates to four-decade lows in recent years, he enabled people to borrow more, and that caused them to bid housing prices up at an extraordinary pace. Greenspan has a vested interest in discouraging talk of a bubble.

Greenspan said the rise in mortgage debt is partly due to good causes: More people have switched from renting to buying, lenders approve applicants they used to turn down and homeowners are using low-cost home equity loans to clear away high-cost credit-card debt.

It nonetheless would pay to do a reality check before taking on an enormous mortgage.

Many people justify buying big homes by saying they're investments. That's fine, so long as you consider the downside. To get your money out of a home, you have to sell or take out a new loan. That means paying interest to get at your money.

And, of course, you have to have a place to live. The profit you make on one home may be needed to buy the next one, unless you're prepared to downsize.

Even if you intend to move to a cheaper place someday -- in retirement, perhaps -- there's no guarantee you'll make a killing when you sell the old homestead. Will the next generation have enough prosperous buyers to take over all the McMansions being built today?

Today's high home prices are the result of low interest rates. Should rates rise, buyers won't be able to borrow as much. That could cause a drop in demand that could make home prices fall.

Some day lots of people who are paying top dollar for homes might find they jumped in at the peak -- just as the dot-com investors did in the late 1990s.

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