Monday, September 22, 2008

A Tale of Two Neighbors

Three years ago, Jim and John moved into new houses next door to each other. They were both in their early thirties about five to seven years into their careers. Since college, they'd seen their incomes double. They'd paid off most of their college debt, their cars only had another year of payments and they'd put some money aside. They felt they were in great financial shape and ready to take on the challenge of home ownership.

Following the trend, they both got the most house they could afford using no-down, low-interest, adjustable rate mortgages with the payments around 35% of their take home pay. The budget was tight, but they were living the dream of new home ownership. With the clearing of their other debts in a year or so and continued increases in their pay, they'd get some breathing room soon. With the hot housing market they anticipated good appreciation; in a couple years they'd have six figures of assets and the payment would be down around 25% of their income. They could tighten their belts for a couple years for that kind of payoff.

Six months later, they found themselves with more debt. New homes required finishing inside and out. Landscaping was installed. Since they'd had apartments before, they needed yard tools to maintain the yard. Inside the windows needed to be covered and appliances installed in the laundry room and kitchen. The old apartment furniture was out of place in a shiny new house and needed to be replaced. This was all just part of normal start-up costs they reasoned, a couple years and it'd all be paid off. In any case, the houses had appreciated 5% already; the equity already covered the new debt.

A year later, John's company was going through tough times and he was told there would be no raises this year. This was better than Jim; his company closed its doors and he was scrambling for another job. He found one after only one month of putting living expenses on credit cards. In this time, the houses appreciated another 2%. Not the super hot market just before they bought, but at least it was something.

Fast forward to the present. John has received a 3% raise since buying the house. Jim has changed jobs twice, each time getting a little more pay, but deficit financing the jobless months. The house payments are still 35% of their take home pay. The cars were paid off but then started breaking down so they were traded in for new leased vehicles. The housing market has softened a bit, prices are down 6%; they're not upside down on the mortgage, but they don't have much appreciation either.

And those low-interest mortgages got adjusted. Up. A lot.

Those tight budgets they were barely making work are now completely broken. There is not enough money coming in to make the payments. After six months of slipping behind, the houses are put up for sale. They sit for two months with almost no activity. They drop the price to sell for the cost of the mortgage. Still no activity. The banks foreclose and they both file bankruptcy.

John looks at his situation, each decision he made over the last three years, the circumstances that were given him and realizes the mistakes he made. Yes, there were things outside his control. But there were also many decisions he made that, with some foresight, he could have anticipated as problematic. Now with hindsight, he can clearly see the high risk financial lifestyle he's been living. He can also now make changes. He's still in his mid-thirties with plenty of time to adjust, make better decisions, recover and continue forward.

Jim looks at his situation and sees life throwing road block after road block at him. He has no control over what's happened. He's upset at the mortgage company for taking so much and then wanting more. He's upset at the companies' management: one went out of business and the other fired him. He's upset at the government and its leaders for such a terrible economy. He talks with his friends about how bad things are and somebody should do something to fix it.

Are you John or Jim?

This account is purely fictional. Any similarity to persons, living or dead, is entirely coincidental.

Harley's note: About a month ago I read this article on Get Rich Slowly. The idea of locus of control,, a long forgotten concept from psych class, has been bouncing around in the recesses of my mind in the intervening weeks. Then yesterday this story popped out of my fingers. Hope you enjoy it.