Why You Should NOT Look At Your House As An Investment

Sounds crazy, right?

The justifications for buying a big expensive house are many. I am sure you have all heard “it’s a tax writeoff,” “you are only paying yourself,” “you will grow into your payments,” and many more. But, the biggest excuse people use when making stupid decisions with home purchasing is: “its an investment.” Because of a healthy real estate market and cheap financing in recent years, people assume that buying a home is a money-making proposition.

Everyone has an uncle or a friend who bought a house at $200K and sold for $350, and now they have a Lexus and some nice clothes. This does happen, but if you want to look at buying a home as an investment, you must carefully weight the costs and the risks involved. After looking at a home purchase in more detail, I hope you will agree that purchasing a house should NOT be viewed as an investment in your portfolio, but rather a place to call home that you might make a few extra bucks on. Your home should be gravy on top of a well-balanced financial gameplan, not the foundation.

Many real estate agents, mortgage brokers, and even your office buddies may imply that by “investing” in a home, you will be much better off financially. Buying a house is often portrayed as such a Panacea that homeowners are bound to “cash out” someday with tons of money. It is very true that it often makes sense to buy a house, and I would not argue otherwise, but here are five reasons why a house should not be looked at as an investment:

1. High Risk – Most people look at rising home values and clearly see the potential financial return from buying a house, yet not many folks honestly assess the risks of home ownership. Lets compare putting $x per month into a home versus an alternative investment such as stocks or bonds. If you lose your job or run into health problems, and have trouble contributing $x per month to your investment (or mortgage), the situations are vastly different. If you cannot pay your mortgage for a year, you can lose the total value of your investment as well as be kicked out of your house. You could lose your entire capital investment in that situation, whereas with stocks or bonds, one can easily stop contributions for a short period of time or even dip into those funds in the case of a hardship. Also, external risk factors such as neighborhood changes, crime, traffic, taxes, and natural disasters should be considered as well.
2. Non-Diversified – Almost by definition, it is impossible to diversify your investement with owning a house. You own one house in one geographic area and any risks fall directly on your shoulders. The saying for this one is “too many eggs in one basket.”
3. Low Liquidity – It is relatively difficult and costly to buy and sell a home. Sure, a home can be sold quickly, but it always involves substantial work, effort, stress, money, and risk.
4. Emotional Considerations – Investors typically make poor decisions when they are emotionally attached to an investment. We have all heard stories of people who are heavily weighted in their company stock and see their financial fortunes go down with a sinking ship since they are “true believers.” The same can be said for houses. It is not necessarily bad to be emotionally attached to a house, but this is not a good omen from an investing standpoint.
5. We sell and buy again – Perhaps the most significant financial consideration with homebuying is that we pour hundreds of thousands of dollars into a house in order to get a future payout. However, when that payday finally comes, its not like that gives us a nest egg for retirement… you have to BUY ANOTHER HOUSE. And unfortunately, the prices of those houses have appreciated as well, so most of the appreciation you get in a house will be dumped back into the purchase of another home. Again – not a bad thing, but certainly not a way to get rich.

Lets look at the numbers. How rich are we going to get? Lets take a $200,000 home purchase with a $20,000 down payment, a 6.5% interest rate and a 30-year mortgage. Lets also assume that the housing market in your area is appreciating at a healthy 10% per year and the home is sold after 10 years. After closing costs, property taxes, homeowner’s association dues, homeowner’s insurance, and maintenance expenses, one can expect to pay over $265,000 over the first 10 years of owning the home after subtracting out the interest-rate deduction. After ten years, your house has appreciated nicely and is worth $519,000! Alright!!

However, you still owe $152,000 on the loan and after paying real estate commissions and expenses to get your home ready for purchase, you clear $325,000 on the transaction. Alright!! Yea!! But wait, you paid in over $265,000 month after month in order to get $325,000 after 10 years, not such a great investment. This equates to approximately a 4% compound rate of return, which is just slightly above what the long-term inflation rate is, and significantly less than one would earn in a diversified securities portfolio. Then you have to turn around and buy another house. You can get rich, but you probably won’t do it with buying a home.

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