How many times have you heard, “a house is the BEST investment you’ll ever make”?… Hundreds probably, maybe more. And while we’re not here to argue that people shouldn’t be buying homes, we want to challenge you to think a little more critically when the folks around you start spurting out potentially dangerous “investment” advice.
Matt and I both own our homes. They bring us happiness and enhance our life. But the reality is, money wise, primary residences often aren’t slam dunk amazing investments. They are inflexible, cost lots of time and money to maintain, and offer a low ROI compared to other investment options out there.
In this article we’re going to cover the reasons buying a house (to live in) isn’t really a great investment. But we’ll also include a few tips for when you do buy a home, because let’s be honest – you’re probably going to do it anyway! 🤣
1. Renting is Usually Cheaper
Looking strictly at the numbers, in most markets across the USA it’s cheaper to rent than it is to buy a home — at least for the first several years.
The current economy isn’t helping the situation either. Historically high purchase prices, rising interest rates and high inflation for home goods and services is increasing the number of years it takes to “break even” on a rent vs. buy calculator. Actually, in some markets it is always cheaper to rent.
Here’s an example, using December 2022 data in a randomly picked US city… Madison, Wisconsin:
- The average price to rent a home is ~1,500 per month
- The average buying price for a home is ~$350,000. Given a 30yr fixed FHA loan with interest rate of 6.4%, the monthly payment (including tax/insurance/maintenance) would be about ~$3,000 per month.
Renting = $1,500 per month
Owning = $3,000 per month
That’s a HUGE difference in monthly housing costs, not counting the big downpayment a buyer would have to come up with.
Renters have a big advantage in situations like this. Paying a much lower amount every month for housing means they can allocate the rest of their savings towards investments. This would grow and compound over the years and in many cases they’d end up with more money than a homeowner.
All things considered, you will likely build wealth faster as a renter than a homeowner. **assuming you invest all your excess savings!!**
2. Poor Historical Returns
The truth is that your home will appreciate in value. But that process just doesn’t happen as fast as most people think it does!
Since the 60s, the US Census Bureau and the National Association of Realtors show residential real estate has increased at a national average of about ~4%. If we compare this to the stock market, the S&P500 has grown at a rate of about 10% per year since 1960.
Here is the impact in real dollars:
- If you invested $100 in real estate in 1960, today it would be worth $1,051. Not bad!
- But if you invested $100 in the S&P500 in 1960, today it would be worth $30,448!
Seemingly small differences in growth rates make a massive impact over the long run. As you can see, buying a home isn’t the “best” investment you can make. It’s not really even a “good” one to be honest.
3. A Home is an Unproductive Asset
Productive investments are things that generate income and pay you dividends. Owning businesses, stocks and bonds are good examples of investments that pay you cash each year.
Primary residences are unproductive assets. Not only don’t they pay you dividends, they actually take money out of your pocket every single month like clockwork! In cash-flow terms, homes are actually liabilities on your personal balance sheet.
That being said, rental properties are in a different class, because they do generate income. But the moment you occupy the real estate you own (and don’t rent it out) the house becomes unproductive.
4. Houses Are Expensive Investments
A 16 year old that makes $800 babysitting for the summer can invest their money into the stock market fairly easily. There’s a low barrier to entry, and it doesn’t cost anything to maintain a brokerage account.
Buying a home however is a MASSIVE investment, requiring tens of thousands of dollars at the outset. Most people buying homes early in life have to go “all in” scraping together every cent they have for a down payment.
It’s not just the expensive down payment though, there are a ton of fees and maintenance costs that you’ll need to consider also:
- Closing costs, usually 3-6% of your mortgage amount
- Realtor fees, averaging 3% buying and selling
- Inspections, warranties, misc fees
- Ongoing maintenance, typically 1% of home price, annually!
Those fees add up! It costs a lot of money to buy your home and quite a bit in maintenance each and every year too. Conversely, some of the best other investment options have little or no fees, meaning 100% of your capital is invested and generating returns on your behalf.
5. Lack of Diversification
Buying your home and “putting down roots” means your money is tied to one specific location.
The average homeowner has most of their net worth tied up in their primary residence. This means that most of their investment eggs are in one basket. That’s not good! If a local or natural disaster comes along, their entire nest egg could be wiped out (having a good homeowners policy is a necessity). Or if the area experiences negative growth for a certain number of years, a huge portion of their net worth is tied to that negative growth, stunting their financial progress.
Furthermore, when it comes time to sell a home, you are geographically limited and can only sell to buyers interested in the specific area where your house is. Are you in a desirable location? That’s helpful! If not, selling your home can take time – which also costs you money. It’s a much smaller market, vs. investments that can be traded on a worldwide exchange.
Tips for Maximizing Returns (and Your Enjoyment!)
OK, so now that we’ve thoroughly torched the idea of making killer profits from your dream home, let’s talk about some of the ways that you can counteract the downsides we mentioned above. Being a homeowner definitely has its benefits and can deliver prosperous results!
The truth is, many Americans do grow wealth from home ownership.
Remember the Purpose of Owning
A quick note on *why* people buy homes…
Purchasing and owning a home is primarily a lifestyle choice. Money aside, you’ll be spending most of your time there, investing in the community and building a “home.”
So, since the goal of owning a primary residence isn’t to get rich, it doesn’t really matter if you make less money on a home investment vs. other investments. It’s important to remember that what you gain in lifestyle and happiness might trump the monetary inefficiencies of home ownership.
If You Can, Put Down 20%
Most of the time, you’ll get more favorable loan terms if you buy a home with a 20% downpayment. Lenders see you as a less risky borrower and may give you a cheaper interest rate. They’ll also not require mortgage insurance (PMI), which could cost you an additional $150-250 a month!
Also, your monthly payment will be lower because your total mortgage will be a smaller amount. This gives you a lot of flexibility over time, as you can allocate more of your monthly income to other things, including paying off your home earlier if you so choose.
I know, a 20% downpayment in some markets seems like a crazy amount to save up. It could take a decade! But, remember it’s usually cheaper to rent in most cities. So you can save money faster as a renter vs. buying too early with too little down.
The Longer You Stay, The Better
Due to the high transaction costs, buying and selling homes every few years usually loses you money because of those steep transaction costs referenced above. Typically the longer you stay in a home, the more time you’re giving market appreciation forces to work their magic.
If you use a rent vs. buy calculator it will tell you the approximate time when owning will start to make the most sense financially. In many markets, this is usually somewhere around the 7-10 year mark.
So, before buying your home, try to envision yourself living there for a decade! If your lifestyle is too unpredictable and not terribly stable, don’t succumb to the home ownership sirens tempting you to make a purchase. Renting almost always works out better in those cases.
Carefully Consider Renovations
The upgrades you want and the ones that make financial sense are rarely the same. Before jumping into renovations, it’s important to fully research whether they will increase the value of the property.
Renovations that don’t add much value compared to the cost:
- Adding a swimming pool
- High end, custom upgrades (like adding a wine cellar)
- Converting garages (trades one use for another)
- “Invisible” improvements (like electrical upgrades or huge A/C upgrades)
- Expanding master bedrooms and ensuites
While these are all nice-to-have, you pay more for them than the additional value they bring to the home.
Improvements that do make sense financially:
- Upgrading/expanding the entrance door area. Research shows a “grand entrance” attracts higher sales prices.
- New, long lasting wood flooring
- Updating extremely old kitchens/bathrooms
- Adding rooms or new square footage (with permits, of course!)
- Adding outside decks, with lighting
If you’re handy, some of these things can be DIY projects that you tackle. But honestly, full room remodels should probably be left to the pros if you’re not so comfortable with power & precision tools!
Pick The Worst House, On The Best Street
Land appreciates. Houses do not.
Every year that you live in your home, the building and structures get older, more worn and less valuable. The real estate (land) under the house, however, grows in value consistently and relentlessly.
The best investments for primary residences are ones where the land appreciation greatly outpaces the house depreciation. I know it sounds weird, but that’s how real estate works.
Anyway, therein lies the problem most homeowners face… They pick the biggest, prettiest, newest looking house in the neighborhood. They pay dearly, then suffer the worst depreciation. It’s like buying a new car right off the lot.
Older houses in great neighborhoods however, are excellent choices. They benefit from the same area increase as everyone else, and are ripe for upgrades and modern improvements while you live there!
Try “House Hacking”
This is a term coined by our buddy Brandon Turner from Bigger Pockets. House Hacking is when you own and live in your home, but also rent out a portion of it to generate income.
Buying a duplex is a perfect example. If you buy a property with 2 living spaces, you can live in one of them and rent out the other. The rental income you receive can greatly offset (or even eliminate) your cost of ownership for the entire property.
Of course you can buy a single family home, and rent out spare bedrooms. This works well in college towns and for young people who don’t mind sharing living spaces. Another option to generate income is renting your home on AirBnB while you are traveling.
If you want to know more about how much of a game changer house hacking can be, check out this episode about house hacking and living for free!
The Bottom Line:
Is a house a good investment? Not really. You can build wealth faster by putting your money elsewhere.
Should you buy a house anyway? Probably, at some point! Because putting down roots and enhancing your family life is usually worth the time, money and effort.
The reality is, most people overestimate the money they make by “investing” in a house. But the truth is, houses aren’t amazing investments. They are average investments at best.
That being said, there are some things you can do to boost your returns. And at the end of the day, buying a home isn’t about making a butt-ton of money and becoming ultra-rich. No single investment will do that. Being a homeowner is about having peace of mind, creating happiness for your family, and enjoying the lifestyle that home ownership and planting deep roots in a community can afford.
A cult-like push for everyone to own a home has been the American tendency for more than half a century. And while there’s certainly nothing wrong with wanting a piece of that American dream, don’t let yourself think that it’s a necessity – or even your quickest path – to building wealth.
**Feature pic by Phil Hearing on Unsplash
