Ask almost anyone on the street and they will tell you that owning your home is a guaranteed winning investment but I argue the answer isn’t so simple.
I bought my first home when I was just 25 in the midst of what was a housing bubble back in the mid-2000s.
I had saved up enough for a down payment for a modest townhouse in the suburbs of Maryland and there was a bidding war for each and every house.
When I told my parents, who had purchase their home in 1980, about the process they didn’t believe it. They couldn’t believe homes were going for more than asking price. In their day, which was over two decades ago, homes sale prices rarely exceeded their asking price.
But that’s how bubbles work – loose lending standards, cheap credit, and lots of willing buyers resulted in a bubble that would burst just a few years later.
It was during that burst I started to question the idea of the American Dream – owning your own home.
Buying your own home is basically a rite of passage in the US today. It’s a sign of success that millions of people aspire to. Despite stories about the availability of affordable housing, the homeownership rate is currently around at around 66%.
We all have different reasons for buying but if there’s one common message that’s been beaten into our collective psyche for generations, it’s that real estate’s a great investment.
But is your home really an investment? Is it truly the amazing investment vehicle that everyone says it is?
Let’s find out…
What is an Asset?
Assets are things you own that can provide future economic value. They can be physical or intangible; goods or resources that bolster your bottom line.
In the simplest terms – and according to Robert Kiyosaki, the author of Rich Dad, Poor Dad, assets put money in your pocket. There are folks who criticize Kiyosaki for a number of his ideas but that basic definition of an asset, versus a liability, is one that I took away from his first book.
The opposite of an asset is a liability. These are the things that you owe; expenses (such as loans, outstanding bills, and lease payments) you have to manage.
Why Your House Is an Asset
Why do so many people consider a house an asset?
It Can Appreciate
First and foremost, the US real estate market has a long and reliable history of increasing in value over time. There are no guarantees, of course; markets fluctuate and economies sometimes crash.
However, in 16 wealthy countries, the annual return on housing between 1870 and 2015 was over 7% when adjusted for inflation. Not only that, but these returns have skyrocketed in recent years (though that has been reduced because of rising interest rates).
In the fourth quarter of 2022, the median home price in the US hit $479,500 – before falling to $436,800 in the first quarter of 2023. In either case, the conclusion remains the same: selling a home in which you’ve accrued equity can result in a sizable windfall especially when you consider $250,000 of that gain is excluded from taxation.
You Can Borrow Against It
A second reason to believe your home is an asset is that you can borrow against the equity you’ve built up.
Assuming that it’s worth more than the outstanding loan amount, the bank will let you take out a line of credit using your home as collateral, issuing home equity loans or lines of credit against its value.
Whether you use it or not is up to you, but having that option gives you financial flexibility.
Why Your House Is Not an Asset
Given what we’ve just discussed, why do some people claim that your home is actually a liability instead of an asset? Let’s find out.
The Expenses Are Significant
If you’ve never owned a house, you’ve never truly understood just how expensive it can be. You have your typical costs that you expect, like utilities and regular maintenance, but you also have those times when major systems fail and will either need to be fixed or replaced.
For example, 77% of homeowners deal with unexpected repairs within the first year of buying their house. Even worse, two-thirds of that essential maintenance work costs over $1,000. Throw in the mortgage payments, various taxes, insurance, and utility bills, and the total annual costs involved can be anything but arbitrary.
Ramit Sethi, author of I Will Teach You To Be Rich, has often said – “Rent is the maximum you will pay, but a mortgage is the minimum you will pay.”
I experienced this first hand when a pipe burst in our house, flooding our laundry room and kitchen, and requiring repairs of nearly $70,000. We were fortunate insurance covered the cost but it was still a significant time investment and it was, of course, extremely inconvenient.
The Opportunity Cost
Remember, every cent you spend on your home is money that could be used elsewhere. For example, the tens of thousands of dollars you paid toward the mortgage could have been used to buy dividend-paying stocks, build a profitable business, or pay for a course that teaches you monetizable skills.
The opportunity cost involved is made worse by the fact that – unless or until you buy it outright – your home is really the bank’s asset. You may be able to borrow from it but if you can’t make your payments, they can take back the house.
You Only Get the Gains When You Sell
Gains on paper are wonderful but ask anyone who has lived through a bubble bursting, whether it was dot com stocks in the 2000s or cryptocurrencies in the 2020s, you only get the gains if you are able to sell.
The value of your house may have increased since you bought it but there’s only one way to enjoy those gains is to sell.
For many people, though – especially when they’ve lived in their property for a long time – the idea of selling loses its appeal. Their house has too much sentimental value! Plus you’d have to move!
They’ve raised kids there, shared countless happy memories within those walls, and are too comfortable in the space to move. Their wealth may exist on paper, then, yet they might never realize those appreciation gains.
Accruing Equity Can Take Time
The length of time it takes to accrue any meaningful amount of equity in the property comes into play too. It could be decades until you actually own your home outright. Worse still, if you default on those mortgage payments, you’ll soon discover that the true owner is the bank.
If you look at the amortization table for your loan, the bulk of your first payments go to interest. This isn’t nefarious, this is because the tax code lets you deduct interest. The loan is set up so you can maximize your tax deductions earlier. That’s all fine except it delays how quickly you gain equity.
This situation relates to a common point many people say about renting vs. buying.
“Renting is throwing away money!”
“You are paying your landlord’s mortgage!”
If you started your 30-year loan today, say July 2023, the first payment in which the portion that goes to principal is greater than the portion that goes to interest is January 2040.
Until then, more than half of your monthly payment is still going to interest.
If you don’t believe me, play with an amortization schedule calculator and look at the schedule.
You might not be paying a landlord, but you are paying the bank.
Should You Buy a Home?
Like many things in life, there’s no single answer for everyone. Not everyone should buy a home and not everyone should rent.
The answer to this question comes down to intention and personal choice. One of the things they don’t tell you about home ownership is that it’s not for everyone.
If you’re buying a personal residence because you think it’s going to be a good investment, there’s a good argument that the money could be better invested elsewhere – like the stock market.
But if you’re looking for a roof over your head, have sufficient income to cover the expenses associated with homeownership, and like the potential of future gains, then buying that house might be a good idea.
If you aren’t sure, pump the brakes and give it some thought (especially given interest rates right now).
We lived in our first townhouse for six years, watching the housing bubble burst and eventually selling our home for a five figure loss after including all maintenance and repair costs. Looking back, it was still a win because we effectively paid approximately $500 a month to live in a townhouse – a fantastic deal.
There’s no rush to enter into a 30-year relationship… you have time to think it through.