Soon after my colleague asked me about 401k Plans and retirement, a real estate agent (who was trying to sell me a house) pitched to me that homes are a good means to “diversify my retirement”. After all, I have to live somewhere, right?
Owning a Home “Forces” You To Save.
The sales pitch definitely hit a nerve. Owning a house can be considered a method of “forced savings” through mortgage payments into your home. You get a mortgage tax deduction and have a place to live! If putting money into your home is the primary means for you to save for retirement, you are screwed. Yes you could have purchased a flat on Champs-Elysees in the 1950’s or a plot of farmland in Shenzhen worth billions now, but buying a home does not equate to buying a lottery ticket.
Can owning a home serve as a means to park your money? Absolutely. But it doesn’t mean that it’s a good place to park your money. My parents bought their home in rural America in the early 1980’s for $66,000 where interest rates were around 12%. They put in another $20,000 in the 1990’s to add a garage and bedroom, but needed to move a few years later for medical care. We ended up selling (after 3 years on the market) for $70,000 before realtor and closing fees. While I don’t have the exact numbers, I believe that my parents paid approximately $150,000 in just their primary mortgage after interest rates!
To make numbers simple, suppose that my parents invested $48,000 in the 1980’s and kept it in a bank that only pays up to the inflation rate. In 1995, that $48,000 should grow to $88,777. Instead, we spent approximately $150,000 to own and live in the house (not including all other expenses of owning a house) and sold it for $70,000 (minus fees).
If you consider this strictly as a way to park you money and “forced savings”, my family clearly made a crappy investment in buying a house. From a qualitative standpoint, we did have great memories and a stable place to live.
But You Made A Crappy Investment In Buying A Crappy House In A Crappy Location!
Sure, hindsight is 20/20. Sometimes you end up living in a lousy part of the country with horrible real estate options simply because of your job. Maybe it’s not possible to move elsewhere because of family. Some markets have limited rental options and you end up having to buy a home in an artificially inflated market.
The truth is that you have to decide whether a home purchase is going to be for living in OR an investment. The math becomes easier if you make the distinction between investment property or a house you live in.
Buying a House To Use As A Primary Residence
Objectively, you can determine the costs of renting an equivalent dwelling or buying a house to live in. The costs of renting typically include the rent itself, renter’s insurance, and any other ancillary costs of renting.
The costs of buying are more complex. You must consider the purchase price, mortgage (plus interest), down payment costs, property taxes, insurance, maintenance fees, and hassle of dealing with problems. You can deduct mortgage insurance and property taxes from your net income, but you still end up spending the money to own.
Owning your home confers more stability from rent increases but limits mobility in case you find a new job in a different city.
The Right Approach To Using Your Primary Residence As An Investment Is To Treat It As A Non-depreciating Asset
Treating your primary residence as an investment actually isn’t a horrible means to stash your cash. There are plenty of other worse options like buying speculative plots of land, precious metals, or timeshares. Statistically, there is a low chance of you losing your home completely (like in a fire, natural disaster, or robbery). However, it is nearly as difficult expecting your house to rise in value without putting any work into it. Extracting value out of a home is nearly as challenging. You have to put your house on the market and hope that someone will come along and make an offer. You will eventually make the sale, but it is certainly not as easy as executing a trade and selling your mutual fund.
How much you can get out of your house will depending on regionality, the current real estate market health, and your desperation desire to unload your home. I wouldn’t expect you to lose a significant amount of money on the home, but it is often difficult to extract enough value to consider your primary home as an investment.
Would I consider your home as a means to store your money? Yes. As a retirement account, it doesn’t fare as well.
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Do you treat your home as a primary investment? Does it make financial sense?