Understanding Mental accounting is very useful when want to be able to handle our personal finances effectively. Mental accounting reflects some deep rooted behavioral patterns and it’s very useful and interesting to be able to understand our own behaviors.
Yesterday, talking to a relative about real estate investments helped me understand mental accounting in a better way. Let me share it with you.
My relatives bought a flat in 1999 for Rs 11 lakhs and they were about to sell it for Rs 30 lakhs.
Three times in 10 years is good enough for me, he said.
Fine enough, but I asked him a few more questions.
Did he spend on getting some interiors/woodwork done? Yes it cost him around Rs 2.5 lakhs.
Any maintenance costs? Yes, it added upto another Rs 1.5 lakhs.
Did he get some rent? No, he did not get a good tenant as he was very choosy.
What we saw was a mental accounting that he got three times in 10 years.
If we get real, the costs added upto Rs 15 lakhs and the money doubled in 11-12 years.
If we actually calculate the CAGR, the return would hover around 6%. (Remember the rule of 72?)
Each one of us have some automated thoughts about investing in real estate. Most of us think that it is an investment that gives good returns. Would you like to revisit that notion?
It’s up to you to have an open or an unshakable mind!
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You coukd factor in also, the rental saved/ deposit saved, what is the opportunity cost there.
@Anon Yes, we could. But this was a second home, so did not apply!