Source: www.tollbrothers.com
Summary
There is a big discussion whether or not your home (primary residence) is an investment. From a qualitative standpoint, it is an investment. It is the place where families create a lot of fond memories, a place where values are instilled, and love is taught. Your primary home can also be a financial investment if it is already fully paid for. From a purely financial perspective, however, your home with a mortgage plan is not an investment because of the following reasons: (please use this file Home Calculation for this discussion).
- Monthly mortgage payments are cash outflows
- The average American family moves every 4 to 8 times during their career
- You need a home; cash is trapped
Your primary residence is not a financial investment, but owning a second home you can rent out to others is.
Related Topics
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- I Have a Luxurious Home, But I am Broke!
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It’s an expense item
Every month, you pay the mortgage – principal and interest – payment. You also pay for Principal Mortgage Insurance (PMI) and real estate taxes. With the exception of the principal, everything else goes to someone else’s pockets. Also, the bigger the home, the more interest, insurance, and tax are charged. The lenders, insurers, and government love it! A home is a liability. You do not own the home until it is fully paid for.
The first 10 years
Consider this scenario. Let’s say you want to buy a home that is priced at $350,000. Also, assume that you put 10% or $35,000 as down payment. You moved into the home and start paying the monthly payment. After 10 years of living in that home, your payment profile would look like this:
Of the $283,255 total payment you made, $114,733 went to interest. Only $67,432 went to principal. $101,000 went to PMI and Property Taxes. Imagine that, after 10 years, only $67,432 went to reducing the principal balance! Sadly, this is just the way how home mortgages are structured. The lenders and government make money first.
We move quite a bit
What’s also making home purchases not so worth nowadays is this new fact of life – we move quite a bit! According to research, the average American family/professionals will move 4 to 8 times during their career.
Source: www.Dailymail.com
While some stay in the same area, some also move out. Assume that you previously bought a home close to your work. Then 3 years later, you got laid off or decided to accept another job offer in another city.
In many cases, this would require you to sell your home. If you have stayed in your home less than 5 years, most likely you won’t make much money unless you live in areas like San Francisco or NYC where property prices are, more often than not, increasing year after year. The reality is for the vast majority of homes, it takes at least 5 years to appreciate in value.
Again, going back to the calculation I provided above, if you only stay in your home for less than 5 to 10 years, much of your payment goes to the bank and government in the form of interest and taxes. This does not even consider the initial loan origination fees one pay when applying for a home mortgage and future selling costs.
I hope you get the message.
You still need a home.
Even if your home has appreciated in value, you just can’t sell your property. You still need a place to stay. Moving takes time and effort. It is a lot of hassle!
We have a family friend in Hawaii who sold their primary residence because they needed a bigger space. They made a gain of $200,000. However, they had to temporarily move to a rental for a year because the property they had wanted to buy was sold to another buyer. They said they won’t do this back to back transaction again. It was so stressful!
Lesson
While I am not saying you should not buy a home for your family, analysis of the points above should be taken into account.
While there is nothing much you can do about the interest payments — you are borrowing money after all, there are certain actions you can do to minimize the potential expenses and losses associated with owning your primary residence.
- If you are looking for a home, consider your needs and budget. Sales agents have a way to lure you into buying a bigger home which you may not need. The bigger the home, the better the commission for the agent. The bigger the home, the more expense incurred (taxes, insurance, utility, etc.).
- If you have school aged kids, buy a home that is in a nice neighborhood with a very good school district. Buy the relatively smaller home, if it makes sense. We bought our home in a nice neighborhood and school district, but our home was one of the smaller ones (2,600 sq. ft). We took advantage of the good school system. Indirectly, my neighbors partially paid for my kids’ education as taxes are based on home values.
What’s a real estate investment property then?
If you own a second house that you can rent out, that is what I consider a real estate investment. You don’t live in it. Renters pay for the mortgage. And if done right, you make extra cash flow.
Having a rental does not guarantee that you will make money. There’s a lot of things you need to take care of including finding the right tenant, ensuring your rental revenues cover all your payments, etc. But by and large, if it is done right, you will make money.