The Truth? Your House is Now a Bad Investment
The idea that owning a home can be an investment stems from the fact that, historically, real estate values rise over time — and this is still true today.
According to Zillow, the average home value in the United States has increased by 20.6% in the last year.
That means that if you bought a home for $276,000 a year ago, it is now worth $331,650.
However, the prospect of an increase in value is insufficient to make a house a true investment. Here is why.
A house serves a more important primary function.
The primary purpose of a house is to provide you with a place to live, which is probably the single most important reason why it is not an investment. So, unlike a company stock or a mutual fund share, it’s not something you can live without.
As a result, you’ll have little control over its sale from an investment standpoint, as you’ll likely sell it when it no longer fits your lifestyle, rather than when it’s more convenient in terms of a return on investment.
This latter point was demonstrated during the 2008 financial crisis, when a lack of control over the timing of buying and selling properties had a significant negative impact on houses as investments.
Many people bought houses at exorbitant prices at the time because they needed a place to live for their families. Then, when the market crashed, some were forced to sell their homes, resulting in a negative return on investment because they bought high and sold low.
Although this occurred over a decade ago, it is not uncommon in the housing market, and it is one of the factors that largely disqualifies a house as an investment.
A house can only be considered an investment if you intend to sell it.
True, house values generally rise, but the only way to profit from that rise is to sell them. However, selling your home requires you to find another place to live.
As a result, you’ll have to use some, if not all, of the equity from your sale to fund that purchase.
If this is the case, your equity is “trapped,” which means you won’t make a profit unless you sell or move to a rental situation.
Thinking of your home as an investment can result in equity loss.
There is another way to get money out of your house, but it is far from risk-free.
You can borrow money from your home based on how much equity you have. This can be accomplished through a home equity line of credit (HELOC) or a cash-out refinance of your first mortgage.
However, when you do either of these things, you are borrowing money against the house. This may give you more money for things other than real estate, but it also gives you a liability. This liability not only reduces future cash flow through monthly payments, but it also puts your home at risk.
During the financial crisis, many people discovered this the hard way. As the value of their homes stayed the same or went down, homeowners realized that they had no equity in their homes. As a result, they couldn’t refinance to lower their monthly payments or sell to move to a less expensive place to live.
Although the widespread use of HELOCs and cash-out refinances made many people feel richer in the short term, it jeopardized their long-term financial security. Many homeowners, who thought of their homes as long-term investments, kept refinancing them, which led to them being “underwater” on their mortgages (owing more than the house was worth).
Thinking of your home as an investment becomes a dangerous assumption at this point.
Owning a home is not an investment because it costs too much to maintain.
When you buy an investment, you usually don’t have to put any more money into it for it to make money for you. However, the same cannot be said for houses.
Not only must you make monthly mortgage payments, but you must also pay real estate taxes, homeowners insurance, and, in some cases, private mortgage insurance.
Aside from that, houses require some TLC over time. Roof, siding, windows and doors, carpets and flooring, and driveway replacement are all possibilities. You can also do major remodeling, such as replacing kitchens and bathrooms.
Each of these expenses, known as the “carrying costs” of homeownership, can cost thousands of dollars.
True investments do not necessitate such an ongoing cash outlay. You can justify those costs by pointing out that the house is providing you with shelter. But, to return to the original premise, if your house serves as your shelter, it isn’t really an investment.
Carrying costs can work against you.
Assume you buy a house for $200,000 and then sell it for $300,000 ten years later. Doesn’t that sound like a good investment? That is, until you consider how much money you have invested in it over the years.
If you paid $1,000 per month for principal, interest, taxes, and insurance (PITI), plus $300 per month for utilities, you would have spent $15,600 per year, or $156,000 over the course of a decade.
You will spend an additional $30,000 if you spend an additional $3,000 per year on routine repairs and maintenance. And if you did some of the more major repairs, such as replacing the roof and flooring, as well as remodeling the kitchen and bathrooms, you could easily spend another $50,000 in that decade.
That’s a total of $236,000 over ten years for a $100,000 profit on the sale.
While it’s nice to walk away from a house worth $100,000 more than you paid for it, the math doesn’t support the notion of the house as a winning investment. We haven’t even factored in transaction costs (such as the 6% realtor commission), inflation, or the fact that the house’s value may not rise significantly over the next ten years.
Your house will not generate income.
The harsh reality is that as a homeowner, your home will not provide any form of cash flow. Unless, of course, you own an investment property and rent it out.
Whether you own a multi-family home and rent out a unit or two, rent out the entire house, or simply rent out a room, this is the only way to make a profit. Renting out a portion or all of your home can help you pay your mortgage, insurance, and other homeownership costs, so it’s worthwhile for many people. In the best-case scenario, this will generate cash flow for the owner.
Although buying and managing real estate investments can be lucrative, it requires a significant amount of work and money, as well as a significant amount of risk. If you’d rather make money from real estate than from stocks and bonds, you might want to look into real estate crowdfunding.
Crowdfunding platforms let you put a small amount of money into big real estate deals and split the profits. Keep in mind that, like all investments, real estate crowdfunding carries the risk of losing some or all of your money.
If you’re looking for a crowdfunding platform, Fundrise is a popular choice. You can invest in a variety of real estate opportunities using a mobile app for as little as $10 and a simple sign-up process.
Roofstock is the place to go if you want a more streamlined buying process when it comes to rental properties. They have a huge selection of properties, and most of them already have tenants, so you can start making money right away.
The magical ingredient is appreciation, but it is not guaranteed.
Finally, let’s go over why so many people consider their home to be an investment. The entire concept is based on the property’s future value. People frequently consider their homes to be investments when the value of their homes rises.
During the 2008 financial crisis, however, property values not only did not increase, but in many cases fell. Some people fell spectacularly. For those in that situation, their home became a major liability rather than an investment.
The possibility of a flat or declining housing market cannot be ignored any longer. If that happens, you’ll be forced to stay in your home for much longer than you expected, and you’ll most likely be unable to sell or borrow against the equity, which doesn’t sound like much of an investment.
The main takeaway is this: Don’t buy a house thinking of it as an investment that will yield a large profit someday. Purchase it for what it is: a home. Everything else is just a bonus.