David Bach’s Start Over, Finish Rich (Part 1)

About a year ago I reviewed Suze Orman’s 2009 Action Plan. I felt certain that it would be the first in a series of annual paperbacks from Ms. Fabulous. Sadly and inexplicably, she seems to have passed on this particular opportunity.

But all is not lost. David Bach, of Latte Factor® fame, has stepped into the breach with Start Over, Finish Rich: 10 Steps to Get You Back on Track in 2010. It works well as a sequel to Orman’s book. Aside from the similar title it shares the same peculiar 4 x 7 1/2 paperback format and a cover laden with gold leaf. (Of course, by law, all personal finance books have some gold leaf on the cover. But this one has an Orman amount.) And Bach cribbed Orman’s gimmick of giving away electronic copies of the book for a limited time to build sales momentum.

But while Orman’s 2009 book had the tone, if not the substance, of a collection of emergency maneuvers to help the reader deal with a calamity, Bach’s 2010 book is more of a pep talk to get the reader back on track now that the calamity is over. Indeed, it is endearingly old school. The goal is to get rich, not merely avoid becoming poor. And Bach generally resists what must have been a strong temptation to make his book seem more timely by claiming that his advice is specially tailored for times like these.

On the contrary, his message is that what you should do now is what you should have been doing all along. What is a good idea in 2010 was a good idea in 2009 and 2008 and will still be a good idea in 2011 and 2012. I have to admit that I admire that sort of stubbornness, all the more since it limits Bach’s ability to issue new books for 2011 and 2012. Then again, he has never shied away from repeating nearly the same book under a different title.

When the current circumstances are taken into account, Bach tends to use them as a justification for being more aggressive in investments rather than more defensive. He takes the (not unreasonable) position that risky assets, stocks and real estate, are very cheap just now. So go out and buy.

But, at least with regard to real estate, Bach’s endearingly stubborn optimism crosses the line into a foolish refusal to learn from the recent past. He is adamant that if you want to finish rich you must own a house. Long-term, renters lose out. Period.

Over the long haul, homeownership remains one of the best – if not the best – investments you can make. In fact, in the 12 years from 1997 to 2009, U.S. homeowners have seen the values of their properties appreciate by an average of 5.4% a year. (p.119)

It is nice to be reminded that on a twelve year basis houses are still up nicely, but is 5.4% really what the best investment you can make pays? The S&P 500 returned about 5.0% including dividends over the same period. Moreover, that was an atypically good period for houses and a below average one for stocks.

Someday a psychology professor will write a brilliant book explaining how, despite widely available numerical evidence to the contrary, it was once conventional wisdom that owning a house was an easy path to wealth. Then the bubble burst, and the scales fell from everybody’s eyes.

Everybody, that is, besides David Bach. For him it is still 2005. He is dismissive of the idea that there could be an argument against home ownership. “When it comes to real estate, there are three kinds of people: those who own, those who want to own, and those who own and want to own more.” He provides information to help first time buyers get a house with as little as 3% down.

If you already own you will, naturally, want to upgrade. This is a great time to do that. Bach does caution that unless you have the money to carry two houses you should be sure and sell the old one before buying a new one.

That said, you will probably be able to find a tenant if you can afford to rent out your [old] place at 25% below market. In this case, you may not want to sell your old house now, but rather hang on to it until the real estate market recovers – and it will recover. The fact is that if you have the cushion and income to carry two properties comfortably, then this could be a great time for you to rent your home, buy another one to live in, and become a real estate investor. As I said, it’s real estate markets like this one that provide an opportunity for average people to become millionaires. (p.137)

It is not that this was sound advice in 2005 but is no longer sound in 2010. It was a bad idea back then too. But in 2005 everybody else was saying the same dumb things. Today Bach stands out like the last guy driving a Ford Excursion.

To be fair, if you look closely you can find some minor tweaks to Bach’s outlook occasioned by recent events. He says that the proportion of your investment portfolio in bonds should equal your age in percent. That’s about 10-20% more in bonds than he was recommending in The Automatic Millionaire (2004).

And in the obligatory recapping of The Latte Factor® Bach concedes that the 10% investment return assumed in his previous book’s discussions is a bit ambitious. Getting rich from avoiding Starbucks was, you see, first conceived back in the early 1990s, when 10% was a reasonable assumption.

Not to worry, even including recent unpleasantness, for the 42 years ending 2009 the stock market was up an average of 8.76% annually. (42 years being the time the original caffeine addled non-saver had until retirement.) Compounded over the next 42 years that’s still some serious money. Not quite as much as with 10%, in fact it’s nearly a third less, but still.

Having made this modestly sobering observation Bach immediately proceeds to ignore it and uses 10% in his calculations for the rest of the chapter. Nor does he reconcile these rates of return with his recommendation to have your age in bonds.

But he does have a new Latte Factor® iPhone app. Only $2.99.

[Part 2 here.]

Books, Gurus | Frank Curmudgeon | February 2, 2010 12:59 pm

265 Comments

By Dan, February 2, 2010 @ 1:36 pm

The idea of owning a home is almost like a religion in this country. No matter what evidence you show people, they can’t let go of the notions that ‘Owning a house is the best investment you can make’ and ‘Renting is throwing your money away’.
By Investor Junkie, February 2, 2010 @ 3:03 pm

Repeat after me, your primary home is not an investment.

There are some advantages of owning a home, but it shouldn’t be considered an investment.
By Hibryd, February 2, 2010 @ 3:13 pm

Dan – True, but I think the truth lies somewhere between the housing cheerleaders and the renting cheerleaders. (I got into a spirited argument with someone who claimed that anyone who bought a home, ever, was an idiot, because renting was always a better deal than being a “slave” to a home.)

Anyway, it’s shocking to see how little shame Bach has. “The Automatic Millionaire Homeowner” is a fascinating look into the bubble mentality. He said that you should buy a home even if you had credit card debt. He said not to worry about housing declining because that had never happened nationally. He excitedly said how sub-prime loans and the “creative financing revolution” meant that people with bad credit could buy homes now. He *claimed* his book wasn’t about getting rich with flipping houses, but darned if he didn’t trot out a bunch of flippers and short-term owners to show how owning a home can make you rich in a matter of years.

At the end of the book he said that buying a home and owning it for the rest of your life was okay, but if you really wanted to be rich, if you wanted to be one of those “Automatic Millionaire Homeowners” he kept lauding, then head to the bank, leverage your house, and get yourself a rental property. Preferably two.

His book came out at the height of the bubble and was accompanied by an “exclusive” downloadable audio interview with David Lereah. Almost anyone who followed his advice, when the book came out, to save for a few months and then get as much home as they could afford would be underwater right now. Furthermore, the logical columns of his arguments (home prices would continue to go up because of sub-prime buyers, investors, and looser lending regulations) have all fallen in a big way. But he hasn’t changed any of his arguments. I’m not sure if I expected an apology or anything, but maintaining that a home is the “best investment you can make” takes some balls.
By bex, February 2, 2010 @ 3:46 pm

It’s amazing that people will make statements like “rent is throwing money away!” and never actually do the very simple math…

I’m pretty sure that the “price to rent” ratio is fairly well known to folks:

http://money.cnn.com/magazines/fortune/price_rent_ratios/

The logic is pretty damn simple…

Question one: if you could buy a house for $1,000,000, or rent it for $1000 per year, does it make sense to rent or buy? That’s a price-to-rent ratio of 1000. Phrased like that, most folks should recognize that it’s better to rent…

Question two: at what price-to-rent ratio does it make sense to rent, versus buy? That’s a tricky question, because you need to plug in interest rates, and account for inflation of rent prices and tax increases. However, the rule of thumb is that when the ratio is 20, it’s cheaper to rent.

Of course… most people feel less stress when they own their own home… It’s like “asshole landlord insurance”. So it’s sensible to expect people to pay a premium for that both now and in the future.
By Ivy, February 2, 2010 @ 4:24 pm

There are very good reasons to own a home… and there are very good reasons to rent. Financial considerations are a part, but not all, of what’s technically a lifestyle decision.

I think one thing we can clearly say though is that, whether buying a house is a good investment or a poor one… it’s not normally a short-term one!
By Hibryd, February 2, 2010 @ 5:11 pm

Bax: “Of course… most people feel less stress when they own their own home… It’s like “asshole landlord insurance”. So it’s sensible to expect people to pay a premium for that both now and in the future.”

Hah! No kidding. If David Bach wanted to inspire more people to buy homes, he should forget about writing a book and just put our former landlords in charge of everyone’s rentals.
By Kent @ The Financial Philosopher, February 2, 2010 @ 9:50 pm

I believe avoiding any book with the word “rich” in the title is a healthy book selection criteria.
By Adam, February 3, 2010 @ 11:25 am

Good lord I hate this guy (David Bach). I hope you rip him apart more in part2. His latte factor alone should make him a prime candidate for being publicly flogged. The assumptions he makes are ridiculous. Thanks for pointing out how he used a risk free 10% return and assumes 100% equities in his “projections” of what the latte factor is costing you over 40 years.

I don’t believe in book burning but in this case I will make an exception. Suze is a brilliant writer in comparison.
By TJR, February 3, 2010 @ 11:33 am

Renters can more easily adjust their housing to changing income or needs because they don’t have the steep transaction costs associated with buying and selling real estate.
By Larry, February 3, 2010 @ 11:35 am

Two good reasons to buy rather than rent are to benefit from the mortgage interest deduction and to know that after the mortgage is paid, you’ve eliminated a major expense from your budget, which can be helpful especially during retirement. If the rate is fixed, you also benefit from paying the debt with increasingly cheaper dollars because of inflation. Of course this presumes you’re buying a home you can afford and that you stay in it long enough to pay it off.
By Alexandra, February 3, 2010 @ 12:13 pm

I agree that it is better financially to rent a place and invest the difference between your rent and what your mortgage would cost on a similar property.

The problem is that most people do not do this. This is why homeowners are wealthier than renters (on average, based on evidence collected from the gov.) This is true across all income levels – homeowners have a greater net worth then the renters who make the same amount of money.

It means that the old adage is true – a mortgage is a forced savings plan. Renters, who generally pay less for their living costs, are not taking the difference and investing it, but rather, are spending it.
By Hibryd, February 4, 2010 @ 2:47 pm

“Having made this modestly sobering observation Bach immediately proceeds to ignore it and uses 10% in his calculations for the rest of the chapter. Nor does he reconcile these rates of return with his recommendation to have your age in bonds.”

At least he doesn’t use 12% like Dave Ramsey does. The difference between 12% (which Dave says you can get if you invest in “good” mutual funds – just contact one of his Endorsed Local Provider brokers for details!) and a more realistic 8%, compounded over 40 years, is gigantic. I’m guessing both David and Dave ignore inflation eating into your gains as well.
By Craig, February 5, 2010 @ 1:23 pm

“If you already own you will, naturally, want to upgrade.”

I don’t really know why. We live in a comfortable house that is perfectly adequate to our needs. That’s why we live in it. We bought a house in an in-town neighborhood that was just starting to become livable again and have made several well-considered improvements to it over the last 12 years. So the house is nicer, the neighborhood is nicer, and it consumes less and less of our home budget as time goes on…but I don’t feel the need to take one more residential real estate in our investment portfolio at this time.

And please, people, let’s be reasonable here. Of _course_ a home is an investment. You pay into it for a period of time–usually a number of years–and, once it’s paid off, it pays you in the form of imputed rent. Cash flows out, cash flows in. You make your preferred guesses about interest rates, inflation, taxes, maintenance, comparative rental costs and so forth, and it’s a perfectly ordinary time value of money computation. How is that _not_ an investment? It may not be a _good_ investment, but that’s another story entirely.

If this website has an overarching theme, it is that you’ve got to do the math. So let us dispense with blanket generalities such as “a home is not an investment.” Especially when they’re wrong by definition. Yes?
By Steve, February 5, 2010 @ 3:09 pm

Using 10% in a calculation of expected gains over time is a LOT different from assuming 12% guaranteed. The former might be debatable, but is at least a reasonable premise. The latter is not just erroneous but dangerous.
By Trevor Hammond, February 6, 2010 @ 8:46 pm

I’m always surprised how people actually compare rates of return on housing directly with that of other investments such as stocks and bonds. 5.4% on a house is not at all relative to 5.0% average in the S&P. That is ONLY accurate if you paid cash for the house.
If you purchase a $300,000 house putting $60,000 (20%) down…and then earn 5.4% the next year in appreciation, that is $16,200. The point is, that is $16,200 on an investment of $60,000. Thas is a 27% rate of return on your investment. Putting $60,000 into the S&P and earning 5.4% gets you $3240. Big difference. It seems even authors don’t make this point obvious enough…but THIS is the primary reason people make money with housing. It is not because it earns a higher rate of return. It is the magic of compound interest on the value of your real estate, which you were able to SAFELY leverage.
By Craig, February 8, 2010 @ 11:34 am

Trevor–

True enough. Leverage magnifies both pleasure and pain, as a lot of people are learning. Housing is only “safe” to buy on margin if you’re going to be in it for a longish time, and you’re fairly confident your region won’t suffer a severe, decades-long downturn. And of course, price matters! If a house is going to cost you 30 years of comparable rent, it’s probably just a bad idea: rent something and pocket the difference.
By Steve, February 8, 2010 @ 4:51 pm

@Trevor – and what if you have a 5.4% interest rate on your mortgage for the other 80%?
By Michael Covington, August 2, 2010 @ 9:46 am

The American Dream of Home Ownership is something corporate employers encourage because it makes workers “stable,” i.e., unable to move suddenly if offered a better job elsewhere.

I chose home ownership because (1) I actually do want to live here for decades, and (2) I want to control the house and be able to modify it. I am not planning to resell it to be “rich.”
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