In The Millionaire Next Door – one of my favorite personal finance books – the authors point out that most millionaires live in nice homes in modest neighborhoods.
“It’s easier to accumulate wealth if you don’t live in a high-status neighborhood. … Perhaps you aren’t as wealthy as you should be because you traded much of your current and future income just for the privilege of living in a home in a high-status neighborhood.”
They also point out that many millionaires choose to send their children to private schools. My assumption is that they chose neighborhoods that were in less-than-desirable school districts, so the money they saved on a place to live was then pumped into the children’s education instead. You should choose a moderate place to live, amongst people who are not as rich as you are (or as rich as you aspire to become). Living below your means starts with a place to live.
Yet there’s another school of thought that says “you should dress to the job you aspire to obtain.” If you want to be rich, you should spend time with rich people (or people who have similar intentions to become rich). By rich, I don’t mean high-income, low net worth; I mean truly rich people who have high net worth and multiple sources of income besides a job (investments, businesses, etc.). You have to live amongst people who will inspire you, provide contacts and guide you.
Which way to live makes more sense?
Big fish, little pond
In this scenario, you choose a moderate home in a modest neighborhood. The money you save on a place to live is partially offset, perhaps, by a longer commute or an expensive private education for your children. You make sure that the place you live never becomes a burden on your ability to create wealth; you do not upgrade your home every four years or attempt to live in the best neighborhood in town. You know that spending money on a home in the best neighborhood in town is about status, not wealth – you will use the money you save on your home to build wealth. You want to be the richest man in your neighborhood in your late middle age.
Little fish, big pond
Looking at the opposite scenario, you find a place to live in the best neighborhood in town. You realize that having a good home and all that entails will be far more important in the long run than trying to skimp on what may be your biggest purchase ever. You feel that paying extra to live in the best part of town isn’t truly “extra” – it means good public schools, low crime, a healthy environment to live in. You want to live around rich people, to understand how they think and to move in the same circles. You want to be the richest woman in your neighborhood in your old age.
I think you can make strong arguments for both scenarios. It’s like the argument for buying used cars or new cars, or clipping coupons to buy name brands versus buying the store brand and skipping coupons. A lot of it may depend on personal preference. The direction you choose says a lot about your world view. I’d argue that the big fish, little pond people are almost by definition “classically frugal.” The little fish, big pond people seem more likely to be believers in Napoleon Hill.
Where you live shapes your worldview. When you buy a home as a young person or a young couple, you make your choices – and they aren’t always good. Sometimes they are just your best guess, and life throws you a curve (you bought a one-bedroom condo and right after the close you find out your wife is pregnant). Sometimes you close your eyes against facts you should consider (you buy an expensive home counting on next year’s raises to make the monthly payments affordable).
The answer is not black or white. But if you choose to live in a moderate neighborhood – according to The Millionaire Next Door – you’re following the path of most millionaires. The little fish, big pond people are – according to the stats – less likely to be millionaires. Yet they may be living more like millionaires. Only time will tell in your life if the choices you’ve made about homes to buy (or rent) will pay off.