Sustainable Personal Finance

For many Canadians, the dream goes a little something like this.

On Friday afternoon, after dealing with Carl from accounting for approximately the 400th time, it’s finally quittin’ time. You elbow past everyone else to the lobby, desperate to get the stink of work off you. After exchanging pleasantries with your fellow wage slaves, you’re in the car and off to the races.

First stop, home. Just enough time to pick up the wife and kids before you’re back on the road again. Destination? Cottage country. Sure, it’s a couple of hours away, but you just can’t wait to get away from the bumper-to-bumper traffic, the urban sprawl, and everything else that annoys you about day-to-day life.

Finally, you’ve arrived to your home away from home. Everything is still set up after last week, all you need to do is hit the store for a gallon of milk and maybe some hot dog buns. The rest of the weekend is spent sitting around the fireplace, roasting marshmallows and probably drinking too much wine.

Ah, now that’s the life.

I won’t knock the experience of going up to the lake for the weekend. I’m not much of a nature guy (“man conquered nature, why would you willingly go back” is my slogan), but I have to admit sitting by a serene lake is pretty great, assuming the mosquitoes are kept at bay.

But there’s a huge difference between wanting to go hang out at the lake and buying property up there. Buying a cabin just isn’t a good idea.

There are a couple of reasons. First of all, cabins cost a lot of money for something that just gets used a few months of the year. Look at it this way. If you buy a cabin worth $250,000 and it takes 20 years to pay back at a 4% interest rate, you’ve spent more than $362,500 just to buy the thing, and that’s not even including property taxes, insurance, and general upkeep.

Besides, most people are just too busy to properly enjoy a cabin. For each family that actually spends each summer weekend at the cabin, there are probably five more that wistfully yearn for more time away, but just can’t seem to find the time. For that family, renting a cabin for the few weekends a year they can get away is a much better choice.

Let’s assume it costs $1000 to rent a cabin for a weekend during the summer months. Our busy family makes it out for three weekends per year. The amount they pay in rent won’t even cover the property taxes and upkeep, leaving them to save thousands in interest over the life of a mortgage. It seems like renting is a much better choice.

But wait, you say, the analysis is missing a very important point. Over the last 20 years, most cabins have been a terrific investment, tracking the price of Canadian real estate in general, which has practically been on an uninterrupted path skyward. Surely cottage owners have made more than enough in capital appreciation to make up for the interest paid.

And you’d be right. On average, Canadian real estate has increased approximately 5% annually over the past two decades. But will that growth continue? And how does it look compared to the alternatives?

Let’s assume two folks took radically different paths. The first one bought a cottage in 1994 for $250,000, paying 4% interest for 20 years. This investment has gone up 5% a year. Today, it would be worth $663,000, less $112,500 in interest. Let’s call it $550,000 for easy figuring, for a profit of $300,000.

Mortgage payments on the cabin would have set back our first investor a cool $1510 per month, or $18,100 per year, give or take a few bucks. Instead of investing in a cabin, the other guy stuck his $18,100 per year into the S&P 500, just buying the index. How much would his investment be worth today?

The answer is $1.2 million, give or take a few thousand.

The reasoning is simple. Even after a crazy bull market in housing, the stock market still crushed the performance of the real estate market. Even after the gift of leverage, which we didn’t give to the stock market investor. And that’s after the greatest bull market in history for Canadian real estate.

Bottom line? Rent the cottage and stick the savings into the stock market. You’ll end up much further ahead.