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Logic Error: The average earner can’t afford the average property…

Posted by markharrison on August 5, 2007

There’s a “logical error” going round the Internet at the moment.

It runs as follows:

  • The average family can’t afford an average house, therefore property is overpriced

The calculation then typically looks at the average income in an area, and compares it with the average selling price of property, and the mortgage rate. The conclusion is then that the average income couldn’t cover the average mortgage.

This is correct so far.

The next conclusion is that, therefore, property is overpriced.

Nope. This is a logic error!

The problem that the calculation is making is that the “average family” looking to buy the “average property” has ZERO equity. Well, by definition, the average family, living in an average property has an AVERAGE amount of equity.

Consider the following cases – the property prices are based on those near me, the names of people are fictional:

  • The average three bed semi-detached costs £245,000
  • The average two bed mid-terrace costs £190,000
  • Ten years ago, the average two bed mid-terrace cost about £90,000
  • Consider Alice, who with her partner Andy earn a healthy £40,000 between them. Suppose that they can scrape together £25,000 for a 10% mortgage. This means they’d need to find a mortgage lender will to lend them £220,000 – or just over 5.5 times their joint earnings. A mortgage payment of about £1,100 a month would result, out of an after tax take-home of about £2,300. Still leaves over a grand a month for food bills and running a car.
  • Now consider Bobby and Belinda, who only earn £20,000 between them. Not only is coming up with £25,000 going to be harder, but the mortgage of £220,000 would be over 11 times their joint earnings, so it’s a no-no.
  • But what about Christine and Colin. They only earn £20,000 as well. However, 10 years ago, they moved into a local two-bed, and put down a £10,000 deposit. Over the last ten years, that £10,000 equity has grown to £120,000. So their mortgage need is £125,000. OK, it’s still about 6 times income, but it’s a lower loan-to-value, so they’ll get a better mortgage deal than Alice and Andy. Their mortgage payment would be about £625 a month, out of a take home of about £1,150.

The net result is that, by starting a working up the ladder, Christine and Colin can afford a home as big as Alice and Andy, for about 50% of their after-tax payments as a mortgage.

Now, you may well argue that 50% of take home is far too much, but that’s a completely different argument.

By the way, average income here is nearer the £40,000 mark than the £20,000, so when you take into account average deposits, most people locally AREN’T having to stretch like Alice and Andy.

The names are made up, but the principle isn’t – the first flat I bought (to live in) was a 450 sq. ft. studio flat. Not the house my family and I are living in 12 years later!


4 Responses to “Logic Error: The average earner can’t afford the average property…”

  1. (And yes, I realise I’ve made a small maths error in C, but hopefully it doesn’t detract from the point.)

  2. StevenT said

    Hello all,

    It’s interesting to read this view on the housing shortage, but it does seem somewhat flawed in places. Could you straighten out any of the following please?

    – what are the chances of someone buying your studio flat of 12 years ago at today’s prices, earning today’s equivalent of your salary?

    – your example of Christine and Colin rests upon a ten year old investment. What would your advice be to them in the absence of £120k of equity today?

    – all of your examples rest upon employed couples, but the average earner (singular) in any of your examples would have some problem.

    – how is an argument about the feasibility of meeting mortgage payments of 50% of net income removed from the argument about making those payments to afford a property?

    – your position also rests on average incomes and an even distribution of affordable housing, but the reality is far more nuanced. In London especially, salary averages are skewed by a small proportion of very high earners, and affordable housing is pretty much non-existent if you’re unable to move some distance from work (shouldering the associated travel expenses), family or others to whom you have a duty of care.

    So, in summary, short of moving away from everything he knows and loves and the people that need him, what should a single Colin do in London? Shouldn’t a healthy housing market be able to accommodate for people like him?

  3. … starting salary buying studio flat…. the multiple of income is higher, but that’s offset by the much lower interest rates… so the proportion of monthly income spent servicing the mortgage would be about the same. However, the problem would be coming up with the deposit in the first place – that’s got harder.

    This was about “average earners” and “average homes”. A single person presumably _needs_ a smaller home than a couple (I know that I was happy in a studio flat before I got engaged, and then we bought a house together.) “Needs” is, of course, different from “wants”.

    I think that a lot of the “gap” comes from rising expectations:

    When I bought my studio flat, in 1994, I had two chairs, a table, plus some cutlery (from my student days.) The flat came with a gas oven, and I bought a fridge.

    I didn’t have a washing machine – I used the laundrette in the high street.

    I didn’t have a bed – I slept in a sleeping bag on the floor. Later, my parents sorted me out a bed.

    I didn’t have a sofa – I later managed to buy a sofabed from a charity shop for £50, and a mate of mine who drove a van for work helped me pick it up on Saturday with the borrowed van.

    I did have a telly, a CD player, and a video, though. I had a land-line phone, but not a mobile.

    Yes, a single Colin should be able to afford a property… but I’m not convinced that a single Colin “should” be able to afford to buy a three-bedroom home as their first property.

    Actually, “should is the wrong word” – I’m trying to avoid making moral judgements. The question that I was trying to answer is whether the market is overpriced compared to historical trends, not whether this is “right” or “wrong.”

    So, I’m not convinced that Colin _could_ have bought a three-bedroom house back in 1994/5, at the bottom of the market.

    I know that I couldn’t!

    Now, the big problem, as I see it, comes with couples who buy a house based on two incomes, then immediately have children. We got married relatively young (24) and didn’t have children for about 7 years.

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