One of my friends who lives in DC loves to complain about paying federal income taxes every year – ironically he’s a federal government employee so his salary is paid out of federal taxes. Nonetheless it’s pretty predictable that at least once or twice around March or April he’ll cry, “Taxation without representation!” (DC residents have no formal representation within Congress.) He’s not the only one that complains about living in DC for one reason or another; other friends living and working in DC love to complain about:
- the weather (too hot! / too cold!)
- high costs of living and housing
- high rates of taxation (have you seen the DC income tax schedule? Aack!)
Whenever this happens, my general refrain is the same. You should just move to Florida. We’re livin’ the dream!
And then they laugh, and I laugh with them and the conversation moves on when they’ve finished venting. But here’s the thing. I’m not actually joking.
Let’s Start With The Weather
Florida gets a bad rap weather-wise, with associations of heat and hurricanes. But the reality is quite different. Where we live, high temperatures in January are in the mid-70s, and in July they’re in the mid-90s. (The last couple of times I’ve been in DC it was 100+ and humid as anything.)
In FL, there’s the possibility of hurricanes, but does DC really want to go head to head with South Florida in terms of extreme weather events in the recent past? Since moving to FL in 2006, we’ve endured a few tropical storms (most of which were just some heavy rain without any significant flooding). But DC? In that same period, my friends have had a snowmageddon, a microburst, an earthquake, and – heck – THEY got to greet Hurricane Irene and experienced flooding from some of the outer bands of Super Storm Sandy. Each of these events caused them to lose power for extended periods of time (measured in DAYS).
So if living in DC hasn’t prevented extreme weather from coming your way, why not move to a place that has building codes that account for it as a possibility!
And The Money?
My friends have also convinced themselves that the COLA (that’s cost of living adjustment) that they receive on their federal salaries for living in DC MORE than makes up for the higher cost of things like housing and taxes.
But the thing is, that’s not actually the case.
Let’s Look At Some Numbers
For comparison’s sake, let’s look at a federal employee who is on the GS payscale (not all are, but it’s an easy way to compare because GS salaries and their COLA equivalents are listed online). For someone who’s well educated and has been on the job for a few years, they might be up to a GS 12, step 6 or so. (Don’t worry if you don’t know what that means.)
If you’re living in an area like we do (that has no COLA), your GS 12-6 salary would be $70,319. In DC, with a 24.22% COLA, that same 12-6 earns $87,350.
By the time you mentally round up and down, the DC salary (wow! almost $90K) is almost $20K more than the non-COLA salary.
But Then You Pay Taxes
COLAs are salary adjustments and are fully taxable. And a good chunk of that mental $20K benefit gets eaten up here. (These tax #s assume a single person with the standard deduction.)
|Fed Income Taxes||10,735||14,691|
|Locality Income Taxes||0||4,449|
|Take Home Pay||$54,591||$62,009|
Okay, so after taxes that huge “almost $20K!” boost in income has been depleted down to $7,418.
Assuming you’re a strict budgeter that’s going to live on the same amount no matter where you live, that means you have an extra $7,418 to save or invest each year. But let’s be honest, it’s a LOT easier to live on a budget in a place with a low COL like FL than it is in DC.
What About Buying A Home?
This is something my friend really wants to do within the next year, and here’s where living in DC is really going to affect his long term savings and investment rates. And here’s why.
The median cost of a home in Florida is $143,900. In DC it’s $424,800. Assuming my friend keeps his spending to $2,500/month in both locales, it would take him 1.17 years of saving save up a 20% down payment in Florida, compared to 2.65 years in DC.
He’s pretty good at delaying gratification, so saving up for extra time isn’t a huge deal to him. But here’s what should be.
Taxes And Interest Are Sunk Costs
If he goes for the DC home, these sunk costs are HUGE! Let’s just look at what those sunk costs really look like.
For comparison’s sake we’re going to assume he buys a median priced home in both locales with a 20% down payment using a 30 year mortgage at 4%. Handily, property taxes in both locales are about the same, 1.09%. (I used the 2010 numbers found here.) However, Florida has a generous $50K homestead exemption that means full time residents don’t pay taxes on the first $50K of home value which brings the effective rate down.
So what do housing expenses in year 1 look like?
|As % of take-home pay||12%||31%|
|Yr 1 Taxes||$1,023.51||$4,630.32|
|Yr 1 Total Housing||$7,618||$24,099|
Buying a median home will cost my friend an extra $16,481 in the first year alone. If we assume he loves his home so much he stays in it until he’s old and grey, what will it have cost him over the whole length of the mortgage?
|30 Years of Interest||$82,736||$244,241|
|30 Years of Prop Taxes||$52,512||$203,284|
|30 Years of Sunk Costs||$135,248||$447,525|
In choosing DC, he’ll have an additional $312K in sunk costs over 30 years.
But A House Is An Investment, Right?
If we assume homes increase in price with inflation (which on average, they do), then at the end of 30 years what will my friend have gotten out of his investment?
|30 Year Sunk Costs||$135,248||$447,525|
|Initial Price of Home||$143,900||$424,800|
|Money Into Home over 30 years||$279,148||$872,325|
|Home Value At End of 30 Years||$294,478||$869,313|
|End Value – Money In||$15,330||-$3,012|
Yes, the number for our friend is NEGATIVE if he stays in DC. His sunk costs were more than the inflationary increase in property value even on a higher valued property.
Moreover, what if my friend had invested the difference each year? That is, what if he chose to live in FL and pay FL housing prices and taxes, but invest the remaining income up to the same percentage that he would have been paying for a home in DC.* (In the early years of his mortgage the DC house + property taxes would have been about 38% of after tax pay, decreasing to about 22% at the end of the 30 year mortgage term.*)
So assuming a 6% CAGR on these “unused” funds, what could my friend have at the end of 30 years? Get ready to gag.
That’s right. By living in FL, my friend could accumulate over $1.1 million dollars in taxable investments in that 30-year period just with the “extra” money he didn’t spend on (largely sunk) housing costs.
So for one last comparison: With the same resources, here’s what my friend could end up with.
|Home Value At End of 30 Years||$294,478||$869,313|
|Total Wealth Generated||$1,432,496||$869,313|
For those keeping track, this means my friend could accumulate ~65% more wealth if he chose to live and buy a home in Florida instead of DC. Not to mention the intangible benefits of living so much closer to Mr PoP and me.
It’s Not Just A Florida / DC comparison
While the numbers might change a bit depending on the exact locales compared, the lesson is still the same. If you have a choice between living in:
- a low cost of living, low tax area, or
- a high cost of living, high tax area
chances are that your COLA (which at 24.22% for DC looks pretty freaking generous) isn’t going to make up for the true cost differences between them.
* To come up with this, I assumed that salary growth would be 2.5% per year, and taxes would stay the same percentage of gross every year. Perhaps imperfect assumptions, but I’m not about to try and guess at tax rates decades in the future.