Most people want to believe that their home (primary residence), which is either a condo, townhome, or house that they live in and pay mortgage on, is an investment. Contrary to what they want to believe, a home is not an investment.
I’m sure you’ve heard the usual arguments: If you’re paying someone else rent, you might as well be throwing away your money. Or the oft-used: You should buy something soon. A house is a good investment.
It also stings to hear that all that money you have placed into your home is just lost money.
How Can My Home Not Be an Investment?
Yes, you read that right: Your primary residence (a.k.a., the house you live in, which is also called your home) is not an investment.
For instance, are you able to liquidate in a hurry if you need the money? Nope. Even if you do, guess what? You just became homeless!
Are you able to take a portion of that money and invest in other things without having to put up a collateral? In many cases, you can take out a HELOC on your house. Still, that is based on the appreciation and your house becomes the collateral. In some cases, the house doesn’t appreciate as much as you’d hoped. Worse yet, what if your house loses value in the time you have the HELOC? The value of your money just became less.
Still, you may be thinking, “That’s ludicrous! If I invest in a house at $500,000 and make $3 million on it 30+ years later, that’s still an investment. It’s called appreciation.”
But Did Your House Really Appreciate?
Perhaps this study will change your mind: In the last 100 years, after adjusting for inflation, housing prices appreciated on average less than 1% per year.
Yes, you read that right: Less than 1% per year!
It may seem like your house’s value appreciated more than that, but it’s really just inflation. Of course, there are certain hotspots around the country where housing prices increase much faster than the average. There may even be areas where housing prices continue to appreciate while most of the United States real estate market are under water. Certainly, you can capitalize on those real estate markets as investments.
That is not to say a house is a poor investment. At the bare minimum, it keeps up with inflation.
What Is an Investment?
Before we get too far ahead of ourselves, let’s answer this question. An investment is typically an asset. An asset creates revenue without you having to work for it. We are all familiar with the idea of having to work for revenue. It’s called a job. When an investment costs you more money than it’s worth, it’s called a liability. Cars are a liability because they create a negative cashflow. Your home is also a liability. It creates no revenue streams. Instead, you are paying property taxes, mortgage, utilities, maintainance, and upkeep costs.
When can you call a house an asset? When you’re renting it out, and it brings in a monthly revenue. Yes, you can even rent out a portion of your primary residence, that alternative dwelling unit (sometimes called a mother-in-law unit), or a room in your house to help pay the mortgage. Then your home just became a revenue-generating machine.
If you look at real estate from that perspective, then yes, it makes sense to call your primary residence an investment. From the ease of liquidity, flexibility, and revenue-generating viewpoints, we would have to say your primary residence is not an investment.
A House Is Still a Nice Thing to Have
Don’t get me wrong…A house is still a nice thing to have.
- You still need some place to live.
- If you calculate the rent you have been paying out, that rent money could have been going towards having your own place. For example, $2000 a month in rent for 5 years is $120,000!
- When you choose to sell the house and move on, the appreciation could mean you’ve lived there essentially for free all that time. With enough appreciation, it could have covered your utilities, maintenance costs and repairs, new appliances, and property taxes. Even if you just broke even, you still lived there for free. Remember: 1% of $500,000 is $5,000 for one year of appreciation. At the very least, that should be enough to cover utilities for a year, even after inflation.
- You do get deductions to reduce your overall tax liability. This often means you could be brought down into a lower tax bracket, meaning the US government taxes you less. For most people, their primary residence is their biggest deduction. The other way is to start a business and write off your expenses, the majority of which are above-the-line deductions. This means you do not have to first surpass the standard deduction ($12,550 for the 2021 tax year).
Other Reasons Why Your Home Is not an Investment
Unfortunately, there are some other things that make owning your house as your primary residence not count as an investment.
As we mentioned earlier, you cannot liquidate for this simple reason: Where will you live?
To actually make a profit, you will likely have to move out of the area, to a whole new area where you can buy a house at a lower cost to pocket the difference.
The reason is that houses in your area will be about the same price as your house. Yes, you can break even by buying a house in the same area. But that doesn’t necessarily make your primary residence an investment.
Then there’s having your equity frozen in your home. As long as you live in the home, you cannot do anything with that equity. Most people live in the same house for several decades. That’s several decades of missed opportunities. Or as investors like to say, opportunity costs. Having that equity locked up in your home cost you in that you could not use that money to invest elsewhere.
It’s great to have a place to live mostly for free, because of that 1% per year (on average) of appreciation after inflation. You’ll still have to pay property taxes, utilities, repairs, upkeep and maintenance costs.
That is not to say that renting is a fool’s errand. You may like an area for its weather, culture, people, or environment. You may have ties to family and cannot leave but are only able to afford the rent (e.g., renting a room in someone else’s house). While it may seem like a rotten deal to never be able to afford your own place, how do you put a price on the intangibles?
Good Reasons to Buy a Home
I think there are other good reasons to own a house.
- You have a place to raise a family.
- You aren’t subjected to the whims of rising rent prices, with a 30-year fixed mortgage.
- You don’t have to worry about your landlord kicking you out because they’ve passed on and their family members decided to increase the rent on you to the point that forces you out.
- Maybe the landlord needs to move back into the house for whatever reason.
- Perhaps the landlord has to sell the place and move into a nursing home because of ailing health. Now, you have to go somewhere else.
You don’t have to worry about some stranger entering your unit when you’re not home. This actually happened to me. My landlord let the exterminator into my unit without my consent or prior notice to do routine spraying for bugs. This had been happening every month for a few years before I finally caught them in the act. Needless to say, I was not happy about this. I, of course, also didn’t like that they were spraying poison everywhere, all without my knowledge. Talk about a HAZMAT situation. In other words, owning gives you control that you would otherwise not have.
Other Reasons Why Your Home Is not an Investment: Networth
Your net worth gives you an overall picture of your financial health. Here’s the formula for calculating your net worth.
Net Worth = Assets – Liabilities.
A higher positive value means you’re doing better financially. Likewise, net worth can be negative. If you’re wondering, it is possible to be making $200,000 a year and still have a negative net worth.
Some people think their homes are assets and include this in the calculation. We, however, do not include a home into the net worth calculation.
There’s also other practical reasons. Businesses, like peer-to-peer (P2P) lending services, oftentimes want to know your overall net worth. They specifically state that your primary residence does not count towards your net worth. Why? Because when you are acting as a lender, you need to have money to lend out. That’s hard to do when your money is tied to your house.
Other Ways to Make Real Estate an Investment
It may seem like we’re against having real estate in general but we’re not. It’s just that too often people tell you why you should buy a home for the wrong reason. The main reason is they believe a home is an investment. And if you’r telling people they are foolish to rent instead of own because they could be putting money towards having their own place as an investment, think twice. In some ways, it is a disservice to misinform people.
Now buying a house is an investment. You rent it out, and BOOM! It becomes a revenue generating machine. Even if you just managed to break even on the mortgage, there’s still that 1% per year of average appreciation.
But I Don’t Have Enough Money to Invest
Buying a house as an investment requires a huge upfront cost. Other options are available, such as REITs (real estate investment trusts). These are in essence crowdsourced real estate investments. You get in with a group of investors, pooling your money together. In return, you get a percentage of your contribution in the returns.
If putting a large sum of money into a house is out of your reach at the moment, start small with REITs like Fundrise and Crowdsource. Overtime, when you’ve built up enough wealth you can then invest into a house. The whole point is to make investing a mindset. That way, you’re always on the lookout towards creating more money. This is a whole lot better than people who adopt the opposite mindset: I cannot afford that!
Bottom Line
A home (your primary residence) is not an investment. It is not a revenue-generating machine. The average appreciation on real estate in the past 100 years is less than 1% per year, after accounting for inflation. In the long run, you’re better off investing in the stock market where you get about 4% to 10% return, after accounting for inflation The ease of liquidity and flexibility of moving stock assets around make the stock market a better investment.
That being said, if you want the stability that real estate provides along with something tangible in hand, invest in real estate as rental properties. In this case, the asset creates revenue.
To create wealth first requires us to change our mindsets and paradigms around money. To achieve freedom often requires us to change how we look at and treat money. It’s easy to get into a false sense of security by thinking your home will in 20 or 30 years’ time create the retirement nest egg you need.
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The best financial advice in the world will fail you if you have bad mindsets around money. What are some examples of bad money mindsets? Investing is only for the rich. I can never afford that. Money is the root of all evil.
I had many of the same money mindsets that you may now have. Through a concentrated effort, I was able to change most of these around. In the process, I transformed from a clueless guy–feeling like he’s barely making it–to someone who’s achieved a measure of financial freedom.
I invite you to get your free gift, 7 Money Mindsets Preventing You From a Positive Cashflow, today.
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