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Jon Kutsmeda

Your Home is NOT an Asset

I’m often challenged on a core principle of real estate investing, which is that the buying a primary residence is NOT an investment.

By no means am I the first person to argue that a home is a liability, not an asset … and I imagine those who have come before me have heard the same emotional justifications for why someone might think otherwise.

So here is a very simple mathematical example to help illustrate the basic premise for why a home is not an asset, and the additional pitfalls of locking up your money into home equity.

Let’s say you buy a property for $100,000 and you are able to finance 100% of the purchase so you now have a $100,000 loan.

For the sake of keeping things simple, let’s also say that you have a $1,000 monthly payment

Broken up as $900 of interest, and $100 principal

Therefore, $900 goes to “rent” the money, and $100 will pay down the debt you owe.

After each monthly payment you would have $100 of equity … which is just the money you could have saved if you didn’t have a mortgage.

Now … if you rented for let’s say $800 a month, you would have $200 cash in your possession, versus the $100 of locked up equity in the home.

You would be $100 richer each month as a renter, but you would also be $200 more liquid.

Consider taking a different approach; if you had purchased that same property of $100,000 and had tenants renting it for $1,100, you would be $100 net positive each month, but you would also be $300 more liquid than owning the home as a primary residence.

I’m clearly over-simplifying things, but the case still stands and there is no argument I haven’t heard, or haven’t been able to rebuttal.

Given current property values, one of the arguments I here most frequently is that finding a rental which makes this type of scenario feasible is impossible.

However I have very little trouble proving these doubters wrong even in over-priced markets.

This is usually just a case of someone who is too lazy to look hard enough to find the right opportunity.

People are also as impatient, as they are lazy.

Regardless the argument isn’t about the principles of investing, it’s about entitlement.

People feel entitled to live at a certain level, “keeping up with the Jones'”, but living beyond our means is wasteful consumption and only results in becoming debt slaves.

When you buy a primary residence the only person getting wealthy or rich are the banks.

They print money, basically out of thin air as they can lend 10 to 1, and many banks re-hypothecate the collateral, meaning they pledge the same asset multiple times. In many cases banks are lending 20 to 1.

When Lehman Brothers and Bear Stearns crashed in 2009, during the financial crisis, they were leveraged more than 70 to 1 and had re-hypothecated collateral to multiple creditors.

The banks lend you money and you pay them interest. The mortgage is the asset to the bank, and the home is the collateral.

As you pay down the loan principal you strengthen the banks position as the increase in “home equity” gives the bank more cushion in the event you default or home values decline.

However, that home equity is DEAD EQUITY, unlike the scenario I laid out with you as the renter where that money is actually liquid in your hand … giving you the ability to multiply it on future investments.

Home equity is only accessible if you refinance, which requires that you borrower more from the bank, which makes the bank more income, and creates more debt for you.

Otherwise, you would need to sell the property, which could incur capital gains tax or profit income tax, in addition to closing costs which would reduce the net-profits you receive in the end.

Once you buy a primary residence your liquidity becomes DEAD EQUITY and your opportunity to build true wealth in real estate is significantly handicapped.

But Jon, “what about when the value of my home goes up. You don’t get the value of appreciation as a renter.”

True, but I experience the same benefit of appreciation as a landlord / investor.

However, using unforced appreciation, which is really just inflation, as justification for buying a home is merely speculation.

Capital appreciation might never been realized, so it’s a gamble.

However, if you’ve been holding a property that has been paying you from rental income, and home values appreciate, then you will experience the same benefit as a homeowner, but you will have enjoyed the monthly cash-flow you have been receiving from your tenants.

Otherwise that increase in home value, will merely act as an offset to “some” of the interest costs you’ve incurred while you were “renting” the money from the bank … but not until you sell.

I’ll say it again …

“Buying a primary residence is NOT real estate investing. You are acquiring a liability, it is not an asset.”

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