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Why Your Home Is Not An Investment

When most people buy a house, they see it as the biggest investment of their life. They are under the impression that this property will yield them significant wealth accumulation over time however when you crunch the numbers, this is rarely the case. Now, if you currently maintain the impression that a home is an investment and that buying a home is the most financially savvy things you can go to grow your wealth then let me share with you exactly why your home is not an investment!

Simply put, your home is not an investment. I would bet that the majority of people do maintain this impression but let me start to explain why this thinking is incorrect. First, while home values do rise over time, they aren’t appreciating enough on average to beat inflation meaning that your purchasing power won’t be any greater when you go to sell your property. Statistics have shown that when you account for inflation, prices of homes have only risen to about 35% in the past 125 years. Also, home prices have been at pace with inflation over the last 60 years. This means that if you purchased a home in 1970 and put it up for sale today, you wouldn’t have much more buying power than you did when you initially bought it. This, of course, doesn’t mean you can’t make some money off your home, it just means it is not the money-making machine many think it to be.

In all truth, a home is where you live and build up your family, as well as plan your other life goals. It is a place where you have shelter, not just for your body, but for your mind and soul. People buy houses because they expect to enjoy living in it, the environment is lovely, and they want to be a part of that community. Don’t make the mistake of confusing a home with a profitable investment.

If you did want to use real estate as an investment, then you would want to buy an investment property instead. An investment property is a building you purchase for the sake of getting returns in the short and long run, whereas a home is purchased for the sake of having a place you and your family can live. Don’t be discouraged from buying a home because you will always need a place to live. It will be yours, and it beats paying rent every year and moving out after paying so much with absolutely nothing to show for it, except rent receipts that is! Now that you have a brief understanding why your home is not an investment, I’d like to expand on some further points.. This will help you have a clearer understanding of what I am trying to say here.

Reason #1: A Home Doesn’t Yield Income

The first and major reason why your home is not an investment is that it does not bring forth any income. The value of your home is based on equity. For those who don’t know what equity is, it is simply a home owner’s interest in a home which can increase over time if the value of the property increases or you offset the mortgage loan balance.

Equity is the portion of your home that you “truly own”. This means if you borrowed money to buy a home, your lender has an interest on the property until you pay off the loan, even though you’re still considered the owner. Here’s an example.

Let’s say you bought a house for $200,000, made a 20% down payment and obtained a loan to cover the remaining $160,000. In this instance, your loan equity interest is 20% of the property’s value.

The property is worth $200,000, and you contributed $40,000 (i.e. 20% of the purchase price). This means that even though you are considered the owner of the property, you officially own just $40,000 worth of it.

You cannot live off equity to support your lifestyle without paying some interest on it and this will of course jeopardize your financial wellbeing. You may use your equity to invest in a proper wealth-generating venture or assets like an investment property that can earn you a consistent stream of income.

Reason #2: Expenditures Yield Little Returns

Purchasing a home isn’t where it stops, you will have to pay for regular maintenance and upkeep. These costs range from mortgage repayments to property taxes. There are also bills like water and other utilities. On a monthly basis, you will have to pump your hard-earned dollars into your home to ensure it remains habitable, safe, attractive and secure. The question you should ask yourself is — Do all these expenses yield income in any way? The answer, if we are to be honest, is NO!

One argument people often make is that investing money into the quality of their home through renovations is surely a way to increase your home’s value and ultimate resale price however this isn’t true. In 2019, Remodeling Magazine performed a study to determine the average return on investment for common home improvements. They measured ROI as the percentage of a renovation’s cost that’s recovered through a higher home sale price. In their report, exactly zero home improvements delivered a positive ROI; every single renovation cost more than it returned in higher values. Therefore, when it comes to your home, there are no financial upsides to the money you put into it.

Reason #3: Capital Growth Is Relative

Capital growth is one way your home could yield you some returns, the only issue here is that it is relative. When you sell your home, I don’t assume you’d want to move to the jungle. This means that you will have to purchase another home to live in. Meaning there is no “real” benefit of that capital growth because other properties (including the new one you buy) would also have increased proportionally.

Unlike property investment, you wouldn’t have created an overall gain in wealth or purchasing power.

For instance, if you purchase a home for $200,000, and you sell for $300,000 after about ten years, you would have an extra $100,000 in capital growth. But as I just mentioned, you would need another home to live in, which you may purchase around the same price you sold your previous home for.

Also, you have to consider the carrying costs you would have incurred during your years living in the home before sale.

Assuming it costs you $1,000 per month for principal interest, taxes, and insurance, and an additional $300 per month on utilities, it means you would’ve spent $15,600 per year, or $156,000 in 10 years, during the time you lived there. Do you still think you’ve made a profit on the sale of that house?

One way you can have a tangible financial benefit from selling your home is if you choose to rent and use the profit from the sale of your home on investment properties. Of course, making such a decision will be determined by several factors. These include:

  • Are you moving into the rented space alone or with your family?

  • How much is rent going to cost you and how long do you plan to keep paying it? ; and

  • Will the returns from the investment property be worth the inconveniences?

Reason #4: The Opportunity Cost

When you own a principal place of residence, you are bound to two different things: your mortgage and the ongoing upkeep costs of owning a home. These financial commitments mean having less money to invest in other higher yielding assets like index funds or even single stocks. Sadly, many people increase the burden of this situation by purchasing a home that’s bigger than they need or overpaying due to a sentimental attachment to the property. Paying too much for a home could put you in negative equity territory, which will in turn make it harder to access funds that can grow your investment portfolio.

Reason #5: A Home’s Primary Purpose Is Not Profit

This has to be one of the biggest factors as to why your home isn’t an investment. The main reason you purchased your home in the first place is to have a comfortable place to live in. One of the most basic factors of any investment is being able to control the timing of ownership. This means you can acquire it and sell at times and under circumstances that are going to maximize your investment return. Traditional investments like bonds, mutual funds and stocks provide the investor with this ability, homes don’t.

Your house being your personal residence, means that you have limited control over the purchase and sale (speaking from an investment point of view). You buy a house when you need it for shelter, and sell when it no longer serves that purpose. During a financial meltdown, the lack of control over the timing of buying and selling the house has a negative effect on houses as investments.

A lot of people purchase homes at the top of the market because that was the particular time they needed a home for their families. The same homes could be sold after the market collapse, due to a negative decline in their personal finances. Buying high and being forced to sell low is not unusual when it comes to residences, and this goes a long way in disqualifying it as an investment.

Now, I think it’s worth mentioning how your home differs from an investment property. The major difference between an investment property and your home is that investment properties are purchased solely for the purpose of generating consistent cash inflow. This means the emotions attached with buying homes is totally eliminated when buying investment properties.

Investment properties are treated purely as a business transaction and aren’t used to obtain personal comfort. Hence, investment properties are bought in strategic locations and at the right price. Investment properties compliment the investor’s financial goals, and not their lifestyle ambitions. What this implies is that investment properties have the ability to generate passive income and a tangible capital growth. A personal home cannot do this.

At this point, I hope we are in agreement that a home is not an investment. However, this doesn’t mean that you’re stuck if you own a home and want to grow your wealth. Your home can help you build property portfolio without saving for a starting deposit. Building a property portfolio by means of equity from your own home is usually safe and carries minimal risk. This is as long as you purchase the right kinds of properties strategically and under the best structure for your goals and you can do this by leveraging the equity in your home.

Pulling out equity to invest in a cash generating investment property can permit you to comfortably service the interest on the equity withdrawn. You can consult a specialist investment mortgage broker to find out if your home will help or restrict your investment journey. A good mortgage broker will help you with the right advice on how to build a large property portfolio in line with your lifestyle and earning goals.

Now, besides taking money out of your home, there is one other way that you can use your principal residence to make money and that’s by converting parts of your home into a rental unit. Quite frankly, this is what I’ve done and it is an ideal way to generate some passive income.

In some cases, money generated from rent can be used to service a home loan although you have to consider the implications for tax purposes. Normally, homeowners don’t have to worry about the tax complexities that come with living in your home and as such get very little tax breaks.

The situation is different when you have a tenant in your home. In this case, you will be mandated to declare any rental income you receive on your tax return. It is similar to running a regular business. Any income you receive has to be taxed, otherwise you’ll be running it illegally. An upside here is that you can deduct some common expenses and lower your rental income to minimize your overall tax bill.

In short, your home isn’t an investment and now you know exactly why!

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